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https://archive.org/details/economicsoftaxat0Obrow 


THE ECONOMICS OF TAXATION 





THE ECONOMICS 
OF TAXATION 


BY 
HARRY GUNNISON BROWN 


PROFESSOR OF ECONOMICS IN THE 
UNIVERSITY OF MISSOURI 
Author of “Principles of Commerce,’ “Transportation Rates 


and Their Regulation,’ “The Taxation of Unearned Incomes,’- 
bie . i 
“Economic Science and the Common Welfare 





NEW, YORK 
HENRY HOLT AND COMPANY 


COPYRIGHT, 1924, 
BY 
Henry Hott AND COMPANY 


Printed in 
the United States of America 


PREFACE 


With the exception of courses in “Value Theory” 
or “Value and Distribution,’ and, occasionally, a few 
others, the so-called ‘‘advanced” work in the econom- 
ics departments of many American colleges and uni- 
versities is very much more largely descriptive and 
narrative in nature and puts far less strain on the 
reasoning powers of the students than the general 
course in Principles. This fact has recently led to 
the suggestion that the course in Principles might well 
be given after, rather than before, most of the other 
courses. (Professor John Ise, in American Economic 
Review, Dec., 1922.) 

My own view is that what is needed is not a post- 
ponement of the Principles, but a thorough revision of 
the courses which follow it, so as to make them not 
a less, but a greater test and training of the reasoning 
powers than the beginning course. The student should 
no more have his first course or courses in economics 
devoted almost solely to the description of economic 
life without fundamental analysis, than he should have 
his first university course in physics devoted merely 


to a description of the lever, rope and pulley, and 
Vv 


| ewsed S\ A CVA 
50045 ian 


vi PREFACE 


other mechanical appliances, without the explana- 
tions; theorizing, problems, etc., that ordinarily make 
up much of a course in physics. And it seems to me, 
from my experience in teaching this material in mimeo- 
graphed form, no more impossible—or difficult—for a 
student of taxation who has already had a thorough 
course in the Principles, and perhaps in Money and 
Banking, to master such theories as are presented in 
this book, than it is for the advanced student in phys- 
ics, who is taking a special course in (say) Light, to 
go more deeply into the theory of that particular sub- 
ject than he did in his general course. 

Only a thorough study of cause and effect relations 
in taxation can, in fact, make any one a competent 
leader of public opinion on tax problems. And this 
is exactly what college and university students in 
public finance are not generally encouraged to under- 
take. To know that this, that or the other tax system 
was applied in any country between given dates, to 
memorize the amounts of money expended for dif- 
ferent public purposes, to learn that government re- 
ceipts can be classified into gratuitous receipts, taxes, 
fees, etc., and to acquire various other bits of scat- 
tered information about the revenues and expendi- 
tures of many countries in many periods, does little or 
nothing to develop the student’s judgment or to make 
him a trustworthy leader of opinion. As to whether 


PREFACE vil 


the recognized leaders of the public on matters of fi- 
nance ever will be chosen from among those who, as 
students, have learned to trace cause and efiect trela- 
tions rather than from among those whose teachers have 
encouraged them to specialize on the superficialities of 
the subject, we cannot say. It is not unreasonable to 
suppose that again in the future, as many times in the 
past, the so-called “leaders” whom the public appears 
_ to follow will be men of no real comprehension of the 
problems, like those they purport to lead, chosen for 
high position because they share the ignorance and the 
prejudices of those who do the choosing. So, like- 
wise, the “experts” selected to serve as legislative ad- 
visors and otherwise in questions of taxation may 
often be thus selected because they can give plausible 
if sophistical reasons for socially undesirable policies 
or because they can point out how to do with precision 
and finesse things that might better not be done at all. 
Nevertheless, it is leadership of a different kind from 
this which we should covet for our students in the years 
when they have become, some of them, prominent in 
economic investigation, journalism and public life. 
The objection may be raised by some that inductive 
verification of conclusions is lacking in this study. 
This I somewhat regretfully but freely admit. The 
task of inductively verifying any considerable part 
of the theory herein presented, would be, if not abso- 


viii PREFACE 


lutely impossible of fulfillment, at best a task of such 
difficulty as to make me despair of ‘Carrying it out 
during any reasonably short period. If such work 
is at all feasible with present statistical data, and in 
view of the many confusing factors at work for which 
allowance would have to be made—by means of the 
so-called “method of residues”—it needs to be done 
piecemeal and, perhaps, by different persons special- 
izing on the various kinds of taxes investigated. To 
date, so little of such work has been done that there 
is perhaps some justification for a book on the gen- 
eral theory of taxation the conclusions of which are 
not buttressed by induction. 

There are, it might be pointed out, two classes of 
professed economists who plead for more use of in- 
duction. The one class is composed of economists who 
realize that dependence on deduction alone involves 
risk of error, not because the method is itself untrust- 
worthy, but rather because even a well-trained mind 
will sometimes overlook some significant premise which 
has an important bearing on the problem at issue, and 
because a long and involved labyrinth of reasoning 
leads often past many a concealed pitfall of fallacy 
into which the unwary are likely to stray. Induction 
and deduction serve to check and verify each other 
and, when the results are not at first consistent, the 
inconsistency may cause a reéxamination of the in- 


PREFACE ix 


ductive or the deductive reasoning which has been fol- 
lowed, or both, leading to a correction of mistakes that 
might otherwise have been overlooked. Such an econo- 
mist will recognize that lack of available data may 
sometimes compel almost exclusive reliance on deduc- 
tion, as incomplete development of a subject sometimes 
compels almost complete reliance on direct induc- 
tion. But instead of rejecting a deductive study as 
valueless because inductive verification is lacking, such 
an one will merely scrutinize the premises and the de- 
ductive processes with exceptional care lest error may 
have crept in; and he will value the more this means 
of reaching conclusions because no other is available. 
Nevertheless, he will be constantly on the alert to see 
if in any way the conclusions reached appear to be 
inconsistent with any facts which offer themselves by 
which they may be tested. 

To the opinions of the other class of critics of de- 
ductive argument—among whom are some professional 
economists—no regard need be paid. ‘These are per- 
sons who object to deduction and affect to despise 
“theory” because they do not understand it. They 
have never learned to reason reliably when the reason- 
ing processes necessary are labyrinthean. While claim- 
ing to be interested in “facts” and in the “inductive 
method,” they are as incapable of using induction ef- 
fectively as of using deduction; for when the phe- 


Xx PREFACE 


nomena are complicated and allowance has to be made 
with meticulous care for all sorts of disturbing circum- 
stances, inductive investigation may be more difficult 
and complicated than deductive. Such professed econ- 
omists as we are now considering have so little com- 
prehension of the canons of logic and the methods of 
the physical sciences that they are unable to distin- 
guish between narrative and descriptive matter coupled 
with a little running commentary of observation, on 
the one hand, and real induction on the other. I am 
. not unmindful of the short-comings of this book, and 
it would please me very much indeed to see careful 
inductive investigations made on the subject of the 
incidence of taxes—if and where adequate data can 
be secured—by truly competent practitioners of the 
inductive method. Such inductive work as Fisher, 
Mitchell and a few others have done and are doing 
in the field of monetary and banking theory would, 
if it led to conclusions in the field of taxation conso- 
nant with those reached herein, appreciably strengthen 
their authority and, if it led to qualifications not herein 
noted and a consequent improved formulation of the 
deductive reasoning herein presented, it might be even 
more valuable. But though I certainly realize that 
my own study falls far short of the ideal in more than 
one respect, I shall not be unduly disturbed by criti- 
cism of it as “too theoretical” coming from persons 


PREFACE xi 


who have no comprehension of how “theoretical” a 
really worth while inductive study would have to be. 
And I strongly suspect that I have here presented 
enough matter for a single volume, and that there is 
some advantage at this particular juncture in the de- 
velopment of the subject, in bringing together between 
the covers of a single book investigations into the prob- 
able incidence and effects of the various principal kinds 
of taxes. 

One more general observation may perhaps be haz- 
arded. I am profoundly convinced of the importance 
of historical studies as a means, among other things, 
of enabling us to understand how men think and act 
in various circumstances. Those who have any consid- 
erable acquaintance with the struggles, the changes of: 
policy, the rise and fall of dynasties, of empires, and 
of religions, and the ascendancy and decline of politi- 
cal parties and of political and economic theories and 
institutions, of which history tells us, and who have 
seriously attempted to understand these things in their 
causes and consequences; cannot lightly accept the glib 
explanation sometimes offered by the superficially 
trained—including some professed economists who 
have specialized in public finance—that a given policy, 
whether of taxation or otherwise, was adopted or aban- 
doned because it was seen to be “fair” or “unjust” or 
because it ‘didn’t work.”’ The competent student of 


xii PREFACE 


history will realize that the influence of interested per- 
sons and classes and the ignorance and consequent in- 
difference, or even the ignorance and consequent active 
prejudice of the masses, frequently cause policies to be 
adopted when they are inimical to, and to be aban- 
doned when they promote, the general welfare. But 
although historical studies are a most desirable back- 
ground for the student of economics, this book is not 
the place for them. 

I desire to express, here, my appreciation to the Uni- 
versity of Chicago Press for permission to use in this 
book, substantially without change, a number of ar- 
ticles first published in the Journal of Political Econ- 
omy. (The Shifting of Taxes on Sales of Land and 
of Capital Goods and on Loans, October, 1921; The 
Incidence of Compulsory Insurance of Workmen, Feb- 
ruary, 1922; Is a Tax on Site Values Never Shifted? 
June, 1924.) They appear now as Chapters V and IX 
and as the latter and larger part of section 2 in Chap- 
ter III, respectively. To Lucas Brothers Publishing 
Company (successors of the Missouri Book Company) 
I desire to express my appreciation for permission to 
use a couple of lengthy passages from my book en- 
titled Economic Science and the Common Welfare, 
published by them, and a passage from my book, also 
published by them, on The Taxation of Unearned In- 
comes. ‘To my colleague, Professor James Harvey 


PREFACE xiii 


Rogers, I am under obligation for general criticism. 
To certain of the chapters he has given especial critical 
attention. But this does not mean that he is in any 
sense responsible for any logical fallacies into which I 
may carelessly have fallen. To my wife I am under 
obligation for several times going over both the manu- 
script and the proof. I would like to record here, also, 
without naming them, my obligation to various of my 
~ students who, although nearly all undergraduates tak- 
ing a course requiring attention to difficult and involved 
reasoning, have helped to keep alive my own enthusi- 
asm for the work by their keen interest, or have stimu- 
lated my thinking and aided me in improving my pres- 
entation by their questions or, in some instances, have 
made suggestions of direct and positive value. 


FG, Bs 
Columbia, Missouri, 1924. 


Aware er 
SCAN Co 


Pa aa 





Mion Y OR CHAPTER (TOR TGs 


Introduqtion—TuE SIGNIFICANCE OF TAXATION IN 
Pusnic FINANCE 


Chapter I—MOoNETARY INFLATION A SPECIES OF TAX- 





TIMATE INCIDENCE . 


Chapter IIJ—TaxrsS ON CoMMODITIES COMPETI- 
TIVELY PRODUCED 


Chapter IV—TaxEs ON ComMopiTIES MONOPOLISTI- 
CALLY PRODUCED 

é | 

Chapter V—THE INCIDENCE OF TAXES ON Labor In- 
COMES 


Chapter VI-—Tur INcipDENCE oF Computsory IN- 
SURANCE OF WORKMEN 


Chapter VIJ—Tuer INCIDENCE OF TAXES ON CAPITAL 
AND THE INCOME FROM CAPITAL . 
oom 


Chapter ViITur Incwence or Taxes oN LAND . 


Chapter IX—-THE SHIFTING OF TAXES ON SALES OF 
LAND AND CaPiITaL GooDs AND ON LOANS 


hapter X—-TuHE INCIDENCE OF IMPORT AND EXPORT 
TARIFFS 


Chapter XI—CoNCLUSION . 


xV 


PAGE 


3 


14 


28 


53 


97 


I4I 


178 


213 


289 
329 





CONTENT S+sBY SECTIONS 


INTRODUCTION 


THE SIGNIFICANCE OF TAXATION IN PuBLic FINANCE 


CHAPTER I 


MONETARY INFLATION A SPECIES OF TAXATION . 


§ 1. How Paper-Money Inflation Taxes Consum- 
A el abrcta 

§2. The Unequal Effects of Inflation on "the 
Welfare of Different Economic Classes . 

§ 3. Summary 


CHAPTER II 


GOVERNMENT BORROWING AND ITs ULTIMATE INCI- 
DENCE 


§ 1. The Nature Poe Fok Pe Borrowing . 

§ 2. “Business as Usual” in War Time . 

§ 3. Can the Burden of Financing a War be 
Imposed on Posterity? 

§ 4. Are Government Bonds a Mortgage of the 
Masses to the Classes? Sart tie 

§ 5. Borrowing and Inflation . 

§6. Summary . 


CHAPTER III 


TAXES ON COMMODITIES COMPETITIVELY PRODUCED . 


§1. Introductory . 
§ 2. Constant Cost or Elastic ‘Supply nia 
§ 3. The Incidence of a Tax on Commodities 
Produced under Constant Cost . 
Xvi 


PAGE 


14 


14 


21 
26 


28 


28 
30 


aft 
42 


46 
50 


53 


53 
56 


59 


XVill CONTENTS 
§ 4. Commodity Taxation and the General Price 
Level. a 
S5. A Qualification : 
§ 6. The Nature of Increasing Cost. 
§ 7. The Incidence of a Tax on Commodities 
Produced under Increasing Cost . 
§ 8. Supply and Demand in the Case of Increas- 
ing Cost . : 
§ 9. Long Run and ‘Short Run Shifting : 
§ 10. The Case of Decreasing Cost 
§ 1x. Another Effect of vornraroad Taxation 
§ 12. Summary MEF aN a! Ranh Vs. 
CHAPTER IV 
TAXES ON COMMODITIES MONOPOLISTICALLY PRO- 
DUCED i hi dat de a ke: oa 
§ 1. The Extreme Possibilities of Incidence in 


SS 
Veer 


$2. 


§ 3. 
§ 4. 


§ 5. 


§ 6. 


Oomwy 


the Case ‘ 

When a Tax on Monopolistically Produced 
Goods Causes a Price Rise of hea Half the 
Tax 

Monopoly and ‘Increasing Cost . ; 
The Incidence of a Tax on the Output of 
a Monopoly Operating under Conditions of 
Increasing Cost 

Production by a Monopoly under Condi- 
tions of Diminishing Cost. Incidence of 
Output Tax in Short Run 

The Long-Run Incidence of a Tax on a 
Commodity Produced by a Monopoly under 
Conditions of Diminishing Cost . p 

A Tax on ners Net Profits 

Summary 


CHAPTER V 


THE INCIDENCE OF TAXES ON LABOR INCOMES 


Sars 


The Incidence of Taxes on Wages in Gen- 
eral MES AN aya |) rey 


PAGE 


62 
67 
68 


13 


78 
81 
86 


94 
95 


97 


97 


102 
108 


IIo 


118 


123 
132 
134 


141 


141 


CONTENTS 


§ 2. The Incidence of Taxes on all Wages in 
any One Line . 

§ 3. The Incidence of Taxes ¢ on Surplus or Un- 
usually High Labor Incomes es 

§ 4. Summary é 


CHAPTER VI 


THE INCIDENCE OF. COMPULSORY INSURANCE OF 
WoRKMEN 


$1. Statement of ite Protledi 

§ 2. Incidence when Insurance is Required in 
All Trades or Occupations 

§ 3. Incidence when Insurance is Required in 
Some Lines and smdnalirebsine are Realized by 
Workmen . 

§ 4. Incidence when Insurance is Required in 
Some Lines and Advantages are Not Real- 
ized by Workmen and when Demand for 
the Products of these Lines is Inelastic 

§ 5. Incidence when Insurance is Required in 
Some Lines and Advantages are Not Real- 
ized by Workmen and when Demand for 
the Products of these Lines is Elastic . 

§6. Summary . 


CHAPTER VII 


TAXES ON CAPITAL AND THE INCOME FROM CAPITAL . 


§ 1. The Incidence of Taxes on Capital Used in 
Some as Distinguished from All Industries . 

§ 2. The Incidence of Taxes on Capital in Gen- 
eral. Dat: an 

§ 3. The Ability Theory of Taxation 

§ 4. Possible Net Loss to sienna from Tax 

on Capital 

. The Incidence of Taxes on “Excess Profits” 

. The Incidence of Taxes on Inherited Wealth 

. Summary 


CORO??? 
SI NAU 


xix 
PAGE 


147 


153 
156 


158 


160 


164 


165 


170 
176 


178 


178 


184 
198 


201 
202 
208 
211 


xx 


CONTENTS 
CHAPTER VIII 


THE INCIDENCE OF TAXES ON LAND 


§ 1. 
Wey 


COMROP002 —CORCOD CONE 
Our 


BY 


eae ee 


The Incidence of Taxes on Land used ie 
Specific Defined Purposes . 
The Incidence of Taxes on Land Values or 
Economic Rent 3 Peck Ree 
Taxation and Capitalization pe 
The Incidence of a Purely Local Land- Value 
Tax ; 


. When Is a Tax Capitalized? 
. The Incidence of Taxes on Land According 


to Quantity é 
The Incidence of Compound Taxes : 
Do All Taxes Discourage Accumulation? 
Summary . Sha. alts) Aces ae 


CHAPTER IX 


THE SHIFTING OF TAXES ON SALES OF LAND AND 
CAPITAL GOODS AND ON LOANS 


S 1. 
o>, 


§ 3. 
§ 4. 


Taxes on Sales of Land . 

Taxes on Mortgages and on Loans i in Gen- 
eral 

Taxes on Sales of Corporation Securities 
Summary Cat ee 


CHAPTER X 


THE INCIDENCE OF IMPORT AND EXPorRT TARIFFS 


§ 1. 
S28 


§ 3. 
§ 4. 


§ 5. 


Revenue versus Protective Tariffs 

The Nature and Purpose of a Protective 
Tariff : 

When “the Foreigner Pays the Tax” 
Import Duties Levied Purely for Revenue . 
Conditions Under Which a Duty Levied 
Purely for Revenue is Borne Exclusively by 
the People of the Levying Country . 


PAGE 
2 I 3 iY 


213 


215v 
236 


246 v 
248 


255 
258 
262 
265 


267 
267 
276 


284 
287 


289 


290 
301 
395 


308 


CONTENTS Xxi 


PAGE 


§ 6. Conditions Under Which an Import Rev- 
enue Duty Might Rest in Whole or in Part 
upon Another Country or Countries than 


the One Levying the Duty . . . 309 
§ 7. The Incidence of Revenue Duties on “Ex. 
DOES ered piel ote csee derek. anal ape eA tae ee Ua 
RRR MPSOULLLINIAL Vis ats) ck cosy ioe ORL ARer ster caizy Ns ean Od 
CHAPTER XI 
BEEP RTOS RICO Sige bia Pig wit gt Lamia Vn eae sia et gt Ova TS 


TORRE CON ei UN ev he hon te) taiiote Bf shuts eR Ses 





THE ECONOMICS OF TAXATION 


Py. 

bes 
NE ¥ 

rot. oo) 


& 
heb v ie 





INTRODUCTION 


THE SIGNIFICANCE OF TAXATION IN PUBLIC 
FINANCE 

The subject of public finance, as commonly studied, 
includes a variety of topics. Chief among these are 
public expenditures, the means of. raising public rev- 
enues and the relation between | expenditures and rev- 
enues. “In connection_with_ public exp blic expenditures there 
comes = up the whole theory of of the proper-functions of 
the" state. Should the state e do more than ‘maintain 
an army and navy, a police force, prisons and courts 
of law? Should it build roads and bridges? Should 
it expend money for the free education of children? 
Should it maintain hospitals, and homes for the de- 
fective? Should it endow research? Should it en- 
courage scientific agriculture by the issue of bulletins 
and otherwise? Should it encourage foreign trade by 
means of a consular service and a department of com- 
merce, publishing bulletins on foreign markets, etc.? 
Should it encourage a merchant marine by subsidies or 
otherwise? ‘These and many other like questions are 
certainly of great importance. But the subject of the 
proper scope of and limit to state functions is entitled 

3 


4 THE ECONOMICS OF TAXATION 


to a much more complete and judicious consideration 
than it often gets in books on public finance or than 
it would be likely now to get in a few introductory 
chapters of a book on taxation. All of the activities 
above-mentioned are engaged in by some governments; 
some of them are engaged in by nearly all govern- 
ments. Nevertheless the considerations by means of 
which a decision as to the justification of such state 
activities would have to be arrived at are numerous 
and intricate; any view which might be herein espoused 
could hardly be defended with the definiteness and 
convincingness with which it can be shown that (for 
example) a tax on soft drinks will raise their price to 
consumers; and the author is disinclined to. pronounce | 


ee. 


judgments which may appear to be merely an echo of 
current popular views a nd_ practice. ee 
The problem of the proper functions of government 
looks still more complicated when there is noted the 
contention of many persons that government ought to 
undertake the provision, at cost, or for a nominal re- 
turn above cost, of various services in addition to those 
supplied gratis.- Whether cities should own and oper- 
ate their own water plants, their own electric-lighting 
systems and their own street railways, and whether the 
central government of a country should own and oper- 
ate the post-office system, the telegraphs and the rail- 
roads, are certainly important questions. And they 


TAXATION AND PUBLIC FINANCE 5 


pertain to the general subject of state functions. Not 
only, however, are they too broad for satisfactory dis- 
cussion in such a book as this, but, also, the settlement 
of them either way would not necessarily affect in any 
important degree the amount of money which must be 
raised by taxation. 


pete. 
The relation of the revenues to the expenditures of 


a state or government has very great practical impor- 
tance. It is recurrently a matter for consideration by 
legislative bodies. For, on the one hand, no program 


of governmental expenditure can be undertaken with- |. 


out a plan for raising the necessary incident revenue. — 


And, on the other hand, no plans for raising revenue , 


should ordinarily be entered into without due consider- | 


ation of the expenditures which have to be or which 
ought to be met. a 

Indeed, more than this may be said. For if we 
believe that the functions which government is to per- 
form gratis should be many, if we believe that these 
functions are important, and if we are convinced that 
they should be carried out on an extended scale, then 
we shall be moved to support high taxation as a nec- 
essary means to our desired ‘end. And we may be 
moved to support such taxation even if the community, 
is poor and the taxation in question hard to bear. 4 


on the other hand, our estimates of the importance of 


governmental services cannot but be relative. A serv-, 


i 


? 


a le 


ies, 


| 


6 THE ECONOMICS OF TAXATION 


ice which is important enough to justify the incident 


i e e se & 
_ necessary taxation in the case of a rich community 


— 


may not be important enough to justify the necessary 


ad in the case of a poor community. 


“ Taxation. is _a_diversion-of-income_or wealth from 
aera! to the state. Jt means that individuals can 
spend under their. pwa-direction. Jess of the returns 
from. economic_activity.and. that more of these returns 
is spent_for them by the state. The > things ‘which the 
state does for all of us collectively are, many of them, 
things which are well worth doing, and some of them, 
such as maintaining order, may be essential. But the 
things that we do for ourselves, individually, are per- 
haps, taken by and large, no less worth while and no 
less essential. If poverty compels most of us to go 
without goods and services which we would like to 
have, the economies will, almost certainly, not all be 
in those services that we provide for ourselves but will 
be, partly, in services that are provided by govern- 
ment and which we pay for through taxation. Our 
compulsory self-denial will not take the form, entirely, 
of poor and insufficient food and clothing, unsanitary 
and inadequate living quarters, deprivation of leisure, 
and so on. In part it will take the form of a smaller 
and less well equipped army and navy, a smaller and 
less efficient police force, fewer and less adequately 
trained teachers for public schools, poorer roads and 


TAXATION AND PUBLIC FINANCE 7 


streets, fewer and cheaper public buildings, and other 
public economies. 

The subject of revenues and expenditures and their 
relation to each other comes before the legislative body 
of a state or nation periodically in the form of the 
budget. Here, again, much might be said did space 
and inclination permit. In some works on public 
finance the discussion of the budget extends over a 
number of chapters. And there are not wanting entire 
books dealing with the subject or even with a few 
phases or a single phase of it. The problems of the 
budget are now, perhaps, more studied by political 
scientists than by economists. They are problems 
having to do particularly with the methods of legisla- 
tion and with the relations between the legislature and 
the executive, in the preparation and passage of the 
budget. Efficiency may be served by the so-called 
executive budget. Bargaining in the legislature, be- 
tween the spokesmen of different interests and the rep- 
resentatives of different districts, in regard to the ex- 
penditure of funds, may be reduced to a minimum if 
the legislature is not allowed to add new items or to 
add funds to the budget as proposed and presented by 
the executive, but only to reject in whole or in part 
the executive’s proposals. The bargaining in question 
may often, if not prevented, have serious economic 
consequences. Yet its existence is a political problem. 


| 


8 THE ECONOMICS OF TAXATION 


And although we are here in a field where political and 
economic forces are inextricably intermingled, never- 
theless the author feels justified in not discussing the . 
problem further. 


For the purpose of this book is the study of prob- 


lems.of taxation,-as..such. And these problems, or 


even a part of them, are sufficiently important to jus- 
tify the exclusion, in the main, of other matter, and 


to justify even more of space and attention than the 


, author.is prepared to give. 


a 


The subject matter of this book is to be taxation, 
but what sort of facts or theories about taxation do we 
desire to discover or to elaborate? And what policy 
or policies of taxation do we expect to advocate? As 
a matter of fact we shall present no special program of 
taxation nor shall we advocate any special kind of 
tax. To do so might arouse the partisan or class bias 
of some readers and make them less ready to assent 
to the fairly demonstrable principles upon which ad- 
vocacy of such a tax program or kind of tax might 
seem to be based. For it is unfortunately true that 
not only the public generally but, even, oftentimes, 
trained economists, are unable to enter into the con- 
sideration of an economic problem of cause and effect 
—when it appears that the conclusions have a definite 
bearing upon a question of public policy—with the 
single-hearted desire to discover the truth, which 


TAXATION AND PUBLIC FINANCE fe) 
marks, ordinarily, the investigator in physics or chem- 
istry. The author cannot, of course, deny the fact 
that such generalizations as may be arrived at as a 
result of the succeeding study, may have a bearing 
upon problems of public policy. Nor is it desired to 
deny this. And it cannot be denied that the principal 
reason for studying economics at all, is to arrive at 
economic laws the knowledge of which may help us in 
determining lines of wise policy. But it is the author’s 
desire, in this book, to keep problems of policy in the 
background, and to devote attention to the discovery 
and explanation of economic laws as such, leaving it 
to readers to make such application of the conclusions 
reached as may seem to them proper. 

Let us illustrate. Much of the space of this book 
is to be devoted to a discussion of the economic laws of | 
the shifting and incidence_of taxation. And the con- 
clusions of such a study should have a significant bear- 
ing on the question of what is desirable in tax policy. 
Certainly we cannot intelligently decide whether a 
given tax may or may not be wisely levied without 
knowing upon what persons or classes of persons tl the 
tax will ultimately fall. If, for instance, a tax ‘which 
is levied, ostensibly, upon the manufacturers of an ar- 
ticle, may fall, in the last analysis, upon the consumers 
of it; if, also, a tax levied, formally, upon the income > 
of capital may fall in part, ultimately, upon the wages 


10 THE ECONOMICS OF TAXATION 


of labor ; and if neither the people in general nor their 
egislative representatives comprehend the laws of the 
shifting and incidence of taxation, then the taxation 
olicy adopted will almost certainly have results that 
were never intended. Persons and classes that the pub- 
i desires to have heavily taxed and believes ought to 
be so taxed may practically escape taxation; while 
/ other persons and classes whom it was not intended to 
tax appreciably will in fact be heavily burdened. The 
| theory of shifting and incidence is thus a most impor- 
| tant and necessary step to the solution of any tax prob- 
lem. For whatever we finally decide to be our ideal of 
distribution of the tax burden, we cannot, without a 
knowledge of the principles of incidence, be certain that 
our actual legislation will come anywhere near con- 


forming to it. 

Nevertheless, two persons might come to perfect 
agreement on the laws of shifting and incidence and 
remain in disagreement as to what form of taxation 
should be adopted by a modern state. For although 
each should admit that certain taxes must, in the last 
analysis, rest on certain specified economic classes, the 
one person might desire to have those classes thus taxed 
and the other might not. It would take common eth- 
ical ideals to bring them together. And even if a com- 
mon ethical goal were in view, e.g., the greatest general 
welfare, it might still be impossible to get an agreement 


TAXATION AND PUBLIC FINANCE 11 


as to how such general welfare could be ultimately best 
secured or as to what it might consist in. 

While the study of the shifting and incidence of taxa- 
tion is, thus, of tremendous importance and will consti- 
tute the larger part of our task, there are other conse- 
quences of taxation than its possible shifting which 
need to be considered. ‘The levy of a duty on imports 
may raise the price of these imports to consumers, but 
it may also cause the purchase of like goods produced 
at home, instead of the foreign-produced goods previ- 
ously bought. And it may, further, cause a decrease 
in exports about equivalent to the decrease in imports. 
An account of the effects of a tax on imports, which 
should stop with an explanation of incidence and which 
should say nothing of the tremendous effects that the 
tax might produce on commerce, would certainly be an 
inadequate account. Again, a discussion of taxes on 
economic rent which stopped with an explanation of. 
their incidence, and made no reference to their capitali- 
zation in a reduced selling value of the land and to the 
various possible consequences of these taxes on the dis- 
tribution of incomes and on the distribution of land 
ownership, would be inadequate. 

The effects which we are interested in investigating 
are, in the main, objective effects. We shall, of course, 
have constant occasion to inquire about the effects of 
various taxes, on men’s minds. But this will not be, as 


12 THE ECONOMICS OF TAXATION 


a rule, because of any interest in their mental states 
of themselves. It will be rather, ordinarily, because 
consideration of these subjective mental states helps 
us to explain how men will objectively act._If a tax 
on certain goods ccauses.men to feel that they.can make 
a better living g producing ducing other goods and so diminishes 
the~supply _o of the goods-taxed, the prices of the taxed 


goods. will rise. To explain this rise we have to con- 
sider the mental processes of the producers. But we 
make inquiry into these mental processes only because 
of their interest as a means of explaining the ensuing 
objective phenomena. Our analysis is concerned with 
mental states in themselves only as it may relate to a 
comparison of utilities and disutilities from different 
taxes or tax systems, assuming the incidence and ob- 
jective effects to be already determined. 

/ We may say, then, that our study is directed to dis- 
{ covering what is the shifting and incidence and what 
\ are the effects of various taxes. Clearly we cannot in- 

vestigate every variety of tax, although we hope to con- 

- Sider such types as will enable the thoughtful reader, 

or student, to master the principles involved and him- 
self apply these principles to taxes not discussed. And, 
clearly, we cannot inquire into all the possible effects 
of any given tax. These effects, though of varying de- 
grees of importance, are multitudinous. The stone 
thrown into the ocean makes ripples which, as they 


TAXATION AND PUBLIC FINANCE 13 


diminish in height with the widening of the circles, may 
extend—could we but measure their infinitesimal mag- 
nitude—to shores thousands of miles away. And the 
light rays which their movement deflects from the 
courses these rays would otherwise follow, may pur- 
sue their new way through the stellar universe far past 
the remotest stars of which the telescope informs us. 
Similarly, the effects, could we consider all of them in 
their (possibly) increasing variety though (probably) 
diminishing intensity, of any given tax, may extend 
through the future to and beyond the time when human 
beings shall have ceased to tenant the earth. We can- 
not treat all these possible effects. We can merely 
point out a few general principles indicating, in a 
general way, the kind or kinds of effects to be ex- 
pected from any given tax, tax system or tax change. 
In choosing what facts to present and what to omit in 
the infinite multiplicity of possible detail, we shall 
doubtless make mistakes. For this we offer no apology. 
Others who write in the future may have to fill in the 
gaps. The things which to-day are unimportant—or 
which seem unimportant to the author—may become 
relatively more important in the future, when the ap- 
parently more pressing tasks now awaiting effort are 
accomplished. To the future, then, many of these other 
tasks must be left. 


CHAPTER TI 


MONETARY INFLATION A SPECIES OF 
TAXATION 


SB 
How Paper-Money Inflation Taxes Consumers 


Perhaps it may be well to begin our study of the 
incidence of taxation with a consideration of a finan- 
cial policy which is not generally thought of as taxa- 
tion at all, viz., the securing of funds, by government, 
through the issue of inconvertible paper money. Nev- 
ertheless such raising of funds is, in effect, taxation, 
and the fact that it is ought to be more emphasized. 

So long as the issue of inconvertible paper money 
merely displaces an equivalent or nearly equivalent 
amount of metallic money, under the operation of 
Gresham’s law, its issue may be no special burden on 
the people of the issuing country. The government 
buys goods and services with the paper money. Thus 
this money gets into circulation. In doing so it tends 
to bid up prices. Such higher prices encourage buy- 
ing abroad where prices have not thus risen. The 
result is increased monetary obligations to foreign 

14 


MONETARY INFLATION AND TAXATION © 15 


countries and a flow of gold to them. ‘Thus, instead 
of a great rise of prices in the paper-money-issuing 
country alone, there is a smaller rise of prices affect- 
ing many or all countries. The paper-money-issuing 
country has given up gold to these other countries and 
has secured, in its stead, goods of various kinds. But 
the loss of the gold is made good by the paper money 
-which takes over the money function. In spending 
this money when first printed, the government has got 
from the citizens various goods and services; but in 
sending abroad for goods and services a substantially 
equivalent value of gold, the citizens have largely re- 
couped their losses. Although the people of the coun- 
try have now only paper money in place of the gold, 
they are not, on that account, necessarily any the 
worse off, since with the paper money they will pre- 
sumably be able to carry on business as effectively as 
if the money were gold. For in order that anything 
should circulate as money and have value in the pur- 
chase of goods, it is only necessary that each* person 
shall have confidence that, if he accepts such money 
from others in selling goods or services, he can, in his 
turn, get others to accept it from him; and that the 
quantity of such money shall be limited. Experience 
seems to show that, when an established government 
issues inconvertible paper money which it makes legal 


1 Most persons,—not necessarily every individual. 


16 THE ECONOMICS OF TAXATION 


tender, such money actually does pass from hand to 
hand in the exchange of goods and services and per- 
forms the ordinary functions of money; and that the 
value of such money declines greatly only if it is over- 
issued in quantity. 

But if there may be a question whether a govern- 
ment is really taxing its citizens when it issues not 
more than enough inconvertible paper money to push 
out of circulation a metallic money of bullion value 
equal to its monetary value, there is no possible doubt 
that it is taxing its citizens if it continues to issue the 
paper money beyond that point. Thus, to illustrate, 
suppose that there is, in the United States, $4,000,- 
000,000 in inconvertible paper money and that all 
metallic money has been driven out of circulation 
through the operation of Gresham’s law. Suppose that 
then the government issues another $4,000,000,000 of 
paper money. This new issue clearly cannot make the 
country as a whole any richer. It cannot facilitate 
the importation of goods from abroad because for- 
eigners will not accept the money * and because there 
is no longer any gold money in circulation which can 
be displaced by the use of paper and so sent abroad 
for goods. The only effect the paper money can have 

1 This statement may be somewhat qualified. People outside 
of Germany have accepted depreciated German marks—have, in 


some cases, made it a point to invest in them—as a speculation, 
hoping that they would rise in value. 


MONETARY INFLATION AND TAXATION = 17 


is to raise prices. As there is twice as much money 
to spend, approximately twice as much of goods and 
services would be demanded at the previously prevail- 
ing prices. But no such increased volume of goods 
can be produced. Demand for goods must, therefore, 
exceed supply unless and until prices approximately 
double. And this is what prices will tend, rapidly, 
to do.’ 

When prices have doubled, the people of the country 
will be getting money incomes roughly twice as large 
as before and paying prices for goods approximately 
twice as high as before. In this there is obviously 
no advantage. But, on the other hand, in this fact 
there is no loss. Yet if such paper money issue by 
government is a kind of taxation the citizens of the 
country must lose somehow as much as the govern- 
ment gets. Where and how is this loss suffered? 

‘For the government to issue $4,000,000,000 of 
paper money when there is already $4,000,000,000 of 
such money in circulation and no gold or other metal- 
lic money capable of being displaced, and for the gov- 
ernment so to buy approximately $4,000,000,000 
worth of goods, is for the government to compete 
against citizens for the purchase of goods. Thus, if 

1 Recent experiences in Germany and Austria have shown that, 
under rapid inflation, prices rise more than in proportion to the 


increase in monetary circulation. Velocity of circulation of money 
is increased. 


18 THE ECONOMICS OF TAXATION 


we suppose the velocity of circulation of money (the 
average number of times a dollar changes hands dur- 
ing a year in payment for goods) to be 26, then, with 
$4,000,000,000 in circulation, about $4,000,000,000 
would be spent in two weeks. But if, during such 
two weeks, the government puts into circulation an- 
other $1,000,000,000, which it has had printed for the 
purpose, and so purchases supplies and services, it to 
that extent outbids the citizens who are trying to buy 
these things for themselves; and these citizens, as in- 
dividuals, can purchase, with the $4,000,000,000 spent 
by them, only some four-fifths as many goods as it 
would otherwise be possible for them to buy.’ The 
government takes the other one-fifth. Thus, the gov- 
ernment practically gets, in effect, a fifth of the out- 
put of industry during such a period. And this is 
abstracted from the people. Hence, the citizens may 
properly be regarded as being, to that extent, taxed 
for government needs. The extra $1,000,000,000 
spent because of the new issue, bids up prices. The 
government bids against the citizens for goods. De- 


1 We are here supposing, for simplicity, that none of the new 
$1,000,000,000 put into circulation by government is spent a second 
time before the expiration of the two weeks; also the assumption 
is made that the velocity of circulation of money has remained 
unchanged with the increase in inflation. This latter assumption 
violates the recent experiences in many countries of Central Eu- 
rope, where under rapidly increasing inflation the velocity of cir- 
culation has increased greatly and prices have risen much more 
than in proportion to the increase in the monetary medium. 


MONETARY INFLATION AND TAXATION — 19 


mand for goods, at prevailing prices, exceeds supply. 
Prices therefore rise to such a point that the $4,000,- 
000,000 spent by the people individually buys less 
than before and the government gets the reduced 
purchasing value of $1,000,000,000. 

When the government has spent its $1,000,000,000 
of new money, it can tax the people no more in this 
‘way without a further issue. There is now $5,000,- 
000,000 in circulation instead of $4,000,000,000. 
Prices of goods and services are, on the average, ac- 
cording to our assumption, twenty-five per cent. higher 
than before. Money incomes are larger but it costs 
more to live. Some will be better off, but, on the 
average, the people of the country are neither better 
off nor worse off than before except for the wealth and 
services abstracted from them by the government when 
the new money was first put into circulation. But if 
the government, during the next two weeks, puts into 
circulation another $1,000,000,000, and then another, 
and another, it thus continues to tax citizens through 
outbidding them for goods in addition to setting in 
motion a whole series of expropriating influences which 
derive their force from the rapidity rather than the 
extent of the inflation. 

In order, however, that the government may tax 
citizens an equal amount with each new ‘issue, these 
issues must become progressively larger as prices be- 


20 THE ECONOMICS OF TAXATION 


come progressively higher. Thus, after $8,000,000,000 
is in circulation, a new issue of $2,000,000,000 is nec- 
essary if the government would take even approxi- 
mately a fifth of the industrial output of the next 
spending period (assumed to be two weeks), as 
$1,000,000,000 new issue was necessary when only 
$4,000,000,000 was in circulation. And so a govern- 
ment which long attempts to finance itself in any 
such way causes prices to rise in geometric ratio until 
finally, perhaps, the money becomes worth no more 
than the paper on which it is printed. If, however, 
the money issued continues to be used, even the diffi- 
culty that the value of the money tends to approach 
that of the paper it is made of is not insurmountable. 
For the government can print, as exemplified in Cen- 
tral Europe, ever larger denominations—instead of 
increasing the number of original denominations—and 
so, in effect, introduce successively new official stand- 
ards. The time when the money is completely dis- 
credited may be long in coming, as we see from the 
case of post-war Germany where money has increased 
and prices have risen rapidly year after year, yet 
where the inconvertible paper money—they have no 
other in circulation *—continues to be used, the limit, 
if any, to the process seeming to lie in its rapidity 


rather than in its extent. 


1 Stabilized since the above was written. 


MONETARY INFLATION AND TAXATION ~ 2r 


§ 2 


The Unequal Effects of Inflation on the Welfare 
of Different Economic Classes 


If, with paper money inflation, all prices should rise 
equally and with equal swiftness, the burden of the 
inflation tax would be distributed over the public in 
proportion to purchases. Paper money issue as a 
means of financing government would then resemble, 


in respect of its ultimate incidence, taxation of com- . * 


modities in general or a general sales tax as being a 
burden on consumers as such.* 

However, in practice prices do not ordinarily rise 
with equal rapidity or in equal degree* and, there- 
fore, the burden is not distributed in proportion to 
consumption or to purchases-in-general. Upon some 
classes the burden falls with crushing weight while 
other classes may gain, at the expense of the classes 
who lose, more than the gaining classes contribute to 
the government. All the classes with fixed money in- 
comes lose at such a time: the recipients of salaries, 
which are apt to change but slowly; the recipients of 
rentals which have been determined in advance by 
contracts applying over a period of years; the recipi- 

1 Cf. Chapter ITI, § 4. 


2Cf. Fisher, The Purchasing Power of Money, revised edition, 
New York (Macmillan), 1911, Chapter IX, 


22 THE ECONOMICS OF TAXATION 


ents of interest on bonds, which continue to pay the - 
same number of dollars, francs, marks or kronen a 
year however much these standards of value may de- 
preciate. 

But, on the other hand, other classes may actually 
gain. ‘Thus the borrowing business enterpriser finds 
that, with prices rising, he gains at the expense of 
lenders and, perhaps, of recipients of salaries. He 
borrows (say) $50,000 to build a factory, pledging 
an interest payment of $2,500 a year. At first, his 
direct outlays for current production come to $60,000 
per year and the salable value of his output is $70,000. 
He pays his interest of $2,500, sets aside $1,500 for 
a sinking fund, and $2,000 for depreciation and has 
$4,000 left for himself. But suppose prices in gen- 
eral to double! ‘Then his outlays for production be- 
come $120,000 and the salable value of his output 
$140,000. But his interest is, by contract, still only 
$2,500. Also, his debt is still only $50,000 despite 
the fact that each dollar is worth only half what it 
was before. On this account he does not need to 
increase at all the annual contribution of $1,500 to 
his sinking fund. Doubling his allowance for depre- 
ciation—a new plant would now cost twice as much 
—he still has left for himself $12,000. With prices 
doubled, he needs $8,000 a year to be as well off as 
he was before with $4,000, but he has $4,000 in excess 


MONETARY INFLATION AND TAXATION — 23 


- of this. The lender, however, is still receiving $2,500 
interest though now he should be receiving $5,000 to 
be as well off as before; and also, on the same basis, 
the debt should now be reckoned as $100,000 instead 
of $50,000, so that it would take $3,000 instead of 
$1,500 a year to provide the sinking fund necessary 
to pay it. In other words, the $4,000 net gain a year 
of the borrower is balanced by a $4,000 net loss a 
year of the lender. 

During a process of inflation financing, the govern- 
ment, as we have seen, is continually outbidding the 
public for goods, so that prices rise faster than, on 
the average, individual incomes increase. Part of the 
net $4,000 gain of the borrower of our illustration 
may thus be abstracted from him by a further rise 
of prices consequent on the bidding for goods by gov- 
ernment through a new paper money issue. It is con- 
ceivable, indeed, that further issues might come so 
fast and prices rise so rapidly as to leave him worse 
off with $12,000 than he was previously with $8,000. 
But such further issues and further rise of prices would 
add more to the injury of lenders. It follows, then, 
that this method of taxation—for we have seen that 
inflation is really taxation—is a method by which the 
lending class not only pays taxes to government but 
also, in addition, loses to the borrowing class; while 
at the same time it is a method by which the borrow- 


24 THE ECONOMICS OF TAXATION 


ing class may gain at the expense of lenders far more 
than it contributes to government. 

These inequalities from inflation are, of course, a 
consequence partly of men’s failure to realize that the 
value of the monetary standard may vary, and they 
are due partly to men’s inability to foresee in what 
direction and how great the variation will be. Could 
the lender both realize the significance of a declining 
value of the monetary unit and foresee such a declin- 
ing value, he would refuse to lend except at a very 
high rate of interest measured in such depreciating 
money. But during long periods of comparatively 
stable prices, the habit of counting on this stability 
and making long-term contracts in expectation of it 
becomes all but universal. 

If government finance through paper money infla- 
tion is, as we have shown, in effect taxation, and if 
it is taxation of so unequal a kind as actually to benefit 
some classes (or tax them only a little) while perhaps 
taking from other classes more than it yields to gov- 
ernment, why is paper money inflation ever adopted 
for the finance of war or any other emergency? Such 
a question may well be asked by one who expects to 
see governments act intelligently and for the general 
interest. It is unlikely to be asked by those whose 
knowledge of human nature and whose study, in his- 
tory, of the past actions of men, have taught them in 


MONETARY INFLATION AND TAXATION 25 


how slight degree men understand the nature of the 
economic forces to which they are subjected and how 
much they are swayed by prejudice, and, what is most 
pertinent from the standpoint of a government, how 
much more important it is for political reasons, to 
avoid unpopular taxes than to impose just ones. Since 
the goods and services secured by government through 
competitive spending of new paper money issues are, 
in effect, obtained by taxation which may actually 
profit some citizens as well as the government, it is 
reasonable to suppose that as much or more wealth 
and services could be obtained by more equitably ad- 
justed taxation. If existing taxes are not high enough 
to secure the needed revenue, then they can be raised | 
higher as an alternative to money inflation. But a 
government may fear to lose popular support if it 
definitely thus increases the tax rate, since such an 
increase can be clearly seen and will be understood 
by citizens to be an increase; while the putting into 
circulation of inconvertible paper money taxes them 
insidiously without their being, as a rule, for some 
time aware what is the cause of their new poverty. 
The rise of prices will be attributed to scarcity of 
goods, to demands of organized labor, to “profiteers,” 
to “war demands,” etc., and few will realize until the 
inflation has become very great, if they ever do, what 
is the real cause of the rising prices. Indeed it is 


26 THE ECONOMICS OF TAXATION 


more than probable that many of the legislators them- 
selves who are instrumental in initiating the inflation 
will not realize. For men who are chosen as repre- 
sentatives of the voters to make the statute laws of 
a country, though they are often plausible in manner 
and effective in speech making, frequently understand 
the laws of our economic life no better than they un- 
derstand differential calculus or physiological chem- 
istry. Being themselves ignorant of the complex 
forces of economics they the more readily accept cur- 
rent fallacies and even themselves initiate such fal- 
lacies by way of attempted explanation of the rising 
prices. According to the influential sentiment of their 
constituents and their own bent—whether “radical” 
or “conservative”—they may attribute the evils for 
which their own action is responsible to the “profiteer- 
ing” of captains of industry or to the “exactions” of 
organized laborers et al. 


§ 3 
Summary 


In this chapter the attempt has been made to ana- 
lyze paper money issue as a means of government 
finance. So far as the issue of paper money operates 
to push out gold or other metallic money into foreign 
countries, the people of the issuing country suffer no 


MONETARY INFLATION AND TAXATION = 27 


loss in their current consumption of goods. But fur- 
ther issue of inconvertible paper money bids up prices 
and consumers are, in effect, taxed since government 
bids against them and their money will buy fewer 
goods. If prices of all sorts rose in equal proportion 
the burden of government’s buying would be dis- 
tributed over all consumers according to their expen- 
ditures. But, in fact, salaries, interest on bonds, etc., 
are relatively unadjustable to new conditions. Hence 
rise of prices consequent on monetary inflation dis- 
tributes the burden of government financing most un- 
evenly over various classes of citizens. 


CHAPTER It 


GOVERNMENT BORROWING AND ITS 
ULTIMATE INCIDENCE 


§ 1 
The Nature of Government Borrowing 


Government borrowing is a recognized and a not 
uncommon means of government finance. But it is a 
means of finance the inner nature of which is generally 
misunderstood. ‘The probable reason for its being 
misunderstood is that a nation’s borrowing is thought 
of as analogous to an individual’s borrowing. An in- 
dividual who borrows money borrows from another 
individual. And the borrowing of a nation may be 
like this, for a nation may borrow of another nation. 
During the recent World War, allied nations did so 
borrow of the United States. But, in general, a na- 
tion borrows within itself, i.e., the nation’s government 
borrows of its own citizens, Hence, so far as the na- 
tion is concerned, there is no increase of assets or 
| spending power. There is merely a transfer from in- 


dividuals to the government, from some of the people 
28 


GOVERNMENT BORROWING—ITS INCIDENCE 29 


in their individual capacity to all of the people in 
their collective capacity. 

Let us examine this proposition more carefully. 
Suppose, for example, that the United States govern- 
ment borrows $500,000,000 from its own people. Just 
what does such borrowing involve? In the simplest 
case, where there is no least element of inflation, it 
involves a transfer, from citizens to government, of 
$500,000,000 of purchasing power. Five hundred mil- 
lion dollars in money or bank checking accounts, 
which would have been in the possession of citizens 
for the purchase of such material goods or services 
as they might desire, are instead put into the posses- 
sion of the government which thus gets the purchas- 
ing power that the citizens relinquish. Then these 
citizens, as individuals, can buy $500,000,000 less of 
goods; but the government can buy $500,000,000_... 
more. ‘There need be neither less goods produced nor — 
more goods; there need be neither less labor employed 
nor more labor; industrial activity need be neither 
discouraged nor encouraged: for the market, though 
in a different direction, is neither smaller nor greater 
than before. It is true that the government, with the 
money borrowed, may not buy the exact articles or 
services that the people as individuals would have 
bought. But the labor, land and capital which would 
have been devoted to making goods for the people-as-~ 


30 THE ECONOMICS OF TAXATION 


individuals can instead be devoted to making goods 
required by the government. 


§ 2 
“Business as Usual’ in War Time 


In the light of the above facts it should be easy to 
see the fallacy in the notion advocated by some busi- 
ness men and_ others, in 1917, that we should have, 
despite. our_participation—in— the- -war, “‘business as 


usual.” sah “What. many of them clearly had in mind 


oe ARR BDI 


Sasi ee 


when using the phrase and what numbers of them 
endeavored to bring about by _their_ advertising was 
expenditure as usual, Thus, a firm might be manu- 
facturing pleasure cars and trying to encourage the 
purchasing of these cars by the public “as usual.” 
Yet if the public had the same money incomes as be- 
fore and spent as much as usual on all the things 
for which they had been spending, then they could 
turn no money over to the government for its ex- 
penditure.* In the long run and on the (rough) aver- 
age, prices and wages tend to be just low enough so 
that the total expenditures of the public purchase the 


1 The points made in this section are not new. They are made 
clear by the discussion of various economists during the Great 
War, among whom were Professors Davenport, Sprague, and 
Carver. A good discussion of the problem is to be found in 
Carver’s War Thrift, New York (Carnegie Endowment for In- 


GOVERNMENT BORROWING—ITS INCIDENCE 31. 


current output of goods and keep currently employed 
the available supply of labor. If the people as in- 
dividuals continue to spend the usual amounts, if 
no new money or bank credit is put into circulation, 
and if prices do not change, their spending will continue | 
to suffice to purchase current output and to employ . 
available labor. There will be no appreciable addi- 
tional supply of goods and no appreciable surplus 
labor to satisfy the war needs—or any emergency 
needs—of government. p : 
If we discuss the problem in general terms, with- 
out especial reference to the use of media of exchange, 
we shall reach a similar conclusion. In periods of 
ordinary prosperity the current purchases of the pub- 
lic absorb all the current production and keep prac- 
tically all would-be laborers busy. Ituis.not to be 
claimed that current consumption necessarily ‘equals 


current production. ‘There may be saving and conse- 


quent increase of durable capital. “Indeed, capital is 


cee nnnn Sab 


never brought into | existence except as time is Spent 


i nn tect PEA cn aetna tee ce nearer fe 0 


in the production « of things that are not currently c¢ con- 


sumed. The construction of a railroad, the building 
‘of a factory, the erection of a bridge, all involve put- 


ternational Peace—Oxford University Press), 1919, Chapter III. 
See, also, on this and other matters connected with war finance, 
an interesting article by F. F. Anderson on “Fundamental Factors 
in War Finance,” in the Journal of Political Economy for No- 
vember, 1917, pp. 857-887. 


32 THE ECONOMICS OF TAXATION 


ting forth labor the fruits of which are realized only 
during a period of many years extending into a future 
far past the time when the work was done. When 
berries are eaten as they are picked, when all the 
products of the harvest are used up for food as quickly 
as they are gathered, and when, in general, no time is 
devoted to producing any goods except such as are 
immediately consumed, there is no increase of capital. 
But although, in a saving community, production nor- 
mally more than keeps pace with consumption, pro- 
duction for sale does not normally exceed purchases. 
The community may be growing richer but it is not 
thereby producing more goods than its citizens want. 
And if these citizens, as individuals, retain or buy or 
both—if they in any way appropriate—all that is pro- 
duced, then nothing is available for the state. Or, if 
the state has new and additional needs, and if the 
citizens as individuals do not curtail their purchases, 
then these new and additional needs cannot be pro- 
vided for. 

It should be, then, obvious that a country cannot 


gpa rank sabre a san mere 


rae Seam int nO” 


get emergency means “for carrying on a war ‘unless 
there is increased production,. -increased saving, or, 
diversion of saving from 1 providing the equipment of 
peace to providing th the means ‘of war. If more labor 


“qs to be diverted to the manufacture of cannons, rifles 
and gunpowder and if no more total labor is to be 


GOVERNMENT BORROWING—ITS INCIDENCE 33 


had, less labor must be devoted to making pleasure 
cars, jewelry, furniture and the like for private citi- 
zens. 

But if the view above criticized is so hopelessly 
fallacious, why, it may be asked, was it so widely 
accepted? One answer would be: self-interest. The 
manufacturer of a luxury serving only the uses of 
peace, unless and until he realized that he could turn 
his plant to the production of things needed for war, 
feared loss of business if the public did not continue 
to spend money for personal gratifications in the same 
way as before. 

There was, however, a certain plausibility about the 
argument for continuance of peace-time expenditure, 
which doubtless not only aided in convincing those 
whose apparent self-interest made them anxious to be 
convinced but also deceived many who had perhaps 
no special interest in the matter but whose economic 


training was not such as to make real analysis pos- 


sible. For it was contended that, by spending money 


freely, the purchasers of goods made business pros- . 
perous and so enabled the war to be paid from such © é 


prosperity. 

' Let us suppose the case of a man who, in 1917, 
contemplates buying an automobile at a price of 
$2,000. He might, instead, lend the government the 
$2,000, ie., he might buy a Liberty bond, and with 


BOA nie ot 


' 


34 THE ECONOMICS OF TAXATION 


the $2,000 the government might buy war equipment. 
But it is argued that, if the automobile is not bought, 
the company selling the automobile would not make 
the “profit” of (say) $300, which might, it is alleged, 
be lent in part to the government and so “help win 
the war.” Better spend $2,000 for an automobile in 
order that $200 of the “profit” of the manufacturer 
should be available to help finance the war rather than 
make the entire $2,000 available at once to help finance 
the war! 

But the above sentences imply that the net disad- 
vantage of buying the automobile, so far as providing 
funds for war finance is concerned, is but $1,800 
($2,000—$200), whereas (except for possible tempo- 
rary difficulties of industrial readjustment) the net dis- 
advantage is a full $2,000. For if the citizen foregoes 
his car and lends the government the $2,000 which he 
would have spent for it and if, therefore, the govern- 
ment buys $2,000 worth of goods or services with the 
money, the manufacturer or producer of such goods 
or services is probably as likely to make a $300 
“profit”? as would have been the manufacturer of the 
automobile. ‘Therefore he is probably as likely to 
be able to lend the government $200. In either case, 
then, the government has probably an equally good 
chance to get the $200 from the $300 “profit.” In 
one case, however, it gets $2,000 to begin with and 


GOVERNMENT BORROWING—ITS INCIDENCE 35 


in the other case it fails to secure this $2,000. 

The above argument does not indicate, however, 
that, out of $2,000 worth of saving, the government 
can get $2,200 worth of goods. The original $2,000 
will presumably be paid for $2,000 worth of goods. 
The possibility of getting another $200 worth lies in 
the fact that one (or more) of the producers of the 
$2,000 is willing to (in effect) give $200 worth of 
services or goods in excess of what he is immediately 
paid for, accepting instead of cash the government 
promise to pay, i.e., accepting government bonds. He 
may, indeed, receive money or checks but he turns 
back $200 of it and takes the bonds. He is able to 
do this because he can live on less than his full in- 
come. He refrains from consuming all he might con- 
sume. In short, he saves. So there has been $2,200 
saved instead of merely $2,000." 

While we are on this point regarding lending to 


1 Lest some critic accuse us of overlooking it, we point out that 
the lending of money to government, e.g., the buying of government 
bonds, may slightly diminish the velocity of circulation of money 
and bank credit, i.e., may diminish the amount spent for goods in 
any given period. The citizen might have spent his $2,000 for 
goods but instead lends it to the government through the purchase 
of government bonds. If the government does not spend it as 
quickly after receiving it as it would have been spent by the 
citizen had he not lent it, then there is a diminished velocity of 
circulation with a consequent tendency, other things equal, towards 
very slightly lower prices. This tendency, however, is probably 
more than overbalanced by the greater velocity of circulation of 
government deposits, 


36 THE ECONOMICS OF TAXATION 


government—or the buying of government bonds—at- 
tention may be called to another fallacy propounded 
in the early months of American participation in the 
World War. This was to the effect that there might be 
danger in depending too largely, for the financing of 
the war, upon taxation rather than bond issue because 
such taxation—so it was alleged—would decrease the 
available sources of capital for business and lessen 
the contributions to charity. In truth, of course, to 
depend on bond issues—if the sums required by gov- 
ernment are actually secured in the desired amount 
—will just as greatly diminish the funds for other 
purposes as if government raises the money needed 
by taxation. Money which a citizen Jends to govern= 
ment can no more be invested in business—or given 
to charity—than money which he pays in taxes to 
government.* Discouragement to business or to char- 
itable contributions can only result if the tax method 
takes a larger proportion of the funds secured than 
does the bond-issue or borrowing method, from the par- 
ticular persons who are inclined to business invest- 
ments or to charity. The taxation method may pos- — 
sibly, in some cases, take a larger proportion from © 
those who are charitably minded. It will hardly take 


1 The possibility of using the bonds bought, as security for a 
private loan, and the investing of the money so secured, in busi- 
ness, with the consequent credit inflation, will be considered in a 
later section (§5) of this chapter. 


GOVERNMENT BORROWING—ITS INCIDENCE 37 


more, we suspect, from those who are minded to in- 
vest. The borrowing or bond-issue method would 
seem more likely to draw the funds of persons who 
are inclined to save and invest than of those who are 
inclined to spend as rapidly as they get. As between 
persons of equal wealth and income, at least, the tax- 
ation method would not seem likely to do so. 


$3 


Can the Burden of Financing a War be Imposed 
on Posterity? 


The preceding discussion may serve somewhat to 
prepare the reader for an examination of the conten- 
tion that the financing of a war or other emergency 
by borrowing, rather than by taxation, puts the burden 
—or part of it—upon posterity. In examining this 
contention we shall assume two cases: one, when the 
borrowing is done outside the borrowing country; 
two, when the borrowing is done inside the borrow- 
ing country. In the first case, no denial can be made 
of the accuracy of the contention, so far as the people 
of the borrowing country are concerned. Thus, cer- 
tain of the allied countries borrowed, during the recent 
war, of the United States. This enabled these coun- 
tries to have, for the time being, additional supplies 
of munitions, food, etc., for which their own people 


38 THE ECONOMICS OF TAXATION 


did not have to pay. But if, eventually, the loans are 
repaid, then the people of these countries must bear 
a burden in excess of their current governmental ex- 
penses. And if this repayment, though made, is con- 
siderably deferred, a burden rests upon another gen- 
eration, in these allied countries, than those who fought 
the war. Whether the gains from the war—or the 
losses prevented by it—are such that they can afford 
so to pay, or whether they are likely to have new 
wars of their own and to be overwhelmed with bur- 
dens and obligations new and old, we shall not in- 
quire. We need only note that, under the assumed 
circumstances, it is undoubtedly possible for the peo- 
ple of a country to impose a burden upon their de- 
scendants, 

Consider, now, the other case, when the borrowing 
nation (or nations) borrows only from its own peo- 
ple. This case was substantially realized during the 
World War by the borrowing of the United States. 


/In this case the contention that the burden of an 


| 


i 
5 


emergency expense can, by borrowing, be thrown 
upon posterity, must be declared to be altogether 
false. ‘Thus, to illustrate, we shall suppose the sum 
borrowed by the United States from its people, ex- 
clusive of sums borrowed to loan the Allies, to have 
been, in round numbers, $10,000,000,000. This loan 
was made by citizens of the war generation, who, in 


GOVERNMENT BORROWING—ITS INCIDENCE 39 


making it, presumably had to curtail their expendi- 
tures in other directions but who received government 
bonds as a pledge of repayment. ‘The question is 
whether they are ever repaid. It can be shown that 
they are not except if, as a group, they repay them- 
selves. For if there is no repayment until a new 
generation has reached maturity, then, obviously, the 
lending generation never gets repaid since, when re- 
payment is made, many of the lending generation are 
dead. While if repayment is made soon, then mem- 
bers of the lending generation are themselves the 
bearers of the taxes. 

Let us discuss the problem in the light of an hypo- 
thetical concrete case. Smith, living during the World 
War, buys, we will suppose, $1,000 worth of Liberty 
bonds in 1918. Suppose repayment to be made in 
1928, Smith being still alive, and suppose that Smith’s 
purchase of bonds was substantially in the same pro- 
portion to the purchases of others as are his tax 
obligations to the tax obligations of others. Then 
when it comes time to pay Smith back the $1,000 
of money which he lent, he must contribute $1,000 
in taxes to provide the means for such repayment. 

1See, for example, Sprague, “Loans and Taxes in War 
Finance,” The American Economic Review, Supplement, March, 
1917, pp. 199-213, especially p. 206, and Davenport, “The War- 


Tax Paradox,” The American Economic Review, March, 1919, pp. 
34-46, especially pp. 37-39. 


40 THE ECONOMICS OF TAXATION 


Or, if the loan is paid back from the proceeds of an 
amortization fund gradually accumulated, then he has © 
had to contribute to this fund. In fact, therefore, he 
never _gets back the $1,000 although in probably 
ninety-nine cases out of a hundred he does not realize 
this. So far as Smith is concerned, conditions would 
have been the same had he been asked to pay the 
$1,000 as a tax in the first place. For though he ~ 
ostensibly merely loans it, he is equally deprived of 
the privilege of spending it for himself; the annual 
(or semi-annual) interest received is matched by an- 
nual payments of tax and the final repayment of prin- 
cipal is, as we have seen, likewise, in effect, a mere 
taking of money out of one pocket and putting it into 
another. 

In practice, of course, the taxes paid by different 
persons to provide means for redeeming the bonds 
issued, have no necessary relationship to the value 
of the bonds bought by these persons. A person who 
bought few bonds may, if he has, when repayment is 
made, large taxable income, pay much toward the re- 
demption of the bonds bought by others; and a per- 
son who bought many bonds may, if he has, at the 
time of repayment, only a small taxable income, pay 
little. 

Hence, although it can be truly said that the people 
as a whole have lost as effectually as if the money — 


GOVERNMENT BORROWING—ITS INCIDENCE 41 


had been raised by taxation and, when they are paid 
back, really have to do the paying themselves, this 
cannot be said of each individual among them. And 
so, the person whose patriotism or sense of duty in- 
clines him to lend money to his government during 
a war, need not fear that he will have to contribute 
more towards paying it back than if the lending were 
done by others. If he does the lending, his later 
taxes will be largely devoted to paying himself back. , 
But if he does not do the lending, his later taxes will 
be devoted to paying others back. As an individual, | 
then, he may fairly consider that lending does not 
cost him more than not lending. But the whole peo- 


ple, considered collectively, might as well contribute 
frankly by taxation as to camouflage the situation 


through government bond issues. 

We shall next suppose, however, that the period 
of repayment of the bonds is deferred, so that the 
repaying is done by a later generation. In that case 
it should be equally clear that the original lenders 
of the funds are never really reimbursed and it should 
be clear that the later generation, considered as a 
whole, is not burdened, Certainly there is no way 
by which a later generation can reimburse a genera- 
tion which has passed away. Smith has loaned his 
$1,000 to the government. He has received only the 
annual interest paid for by taxes on his own generation, 


42 THE ECONOMICS OF TAXATION 


perhaps on himself. Before the principal is due, he 
dies. The government bond is inherited by his son. 
Thus, when redemption is undertaken, and taxes are 
levied on the new generation to consummate it, the 
funds so raised are paid to the new generation. Smith’s 
son—along with his contemporaries—meets the taxes 
that are required to redeem his bond. If any of the 
older generation are still living, they will contribute 
to the repayment, probably in proportion as they re- 
ceived such repayment. If none of them are living, 
the new generation will do all the paying but, also, it 
will do all the receiving. 


§ 4 


Are Government Bonds a M origage of the Masses 
to the Classes? 


During the recent World War, persons of liberal 
and radical persuasion were, in large part, advocates 
of the scheme of having the funds necessary raised 
entirely or almost entirely by taxation rather than by 
bond issue. ‘They reasoned that sharply progressive 


11t is, of course, admitted that, with many of the older genera- 
tion still living, a tax discriminating specifically against the newer 
generation would force them to contribute largely towards the 
repayment of the original lenders. Also, a non-discriminatory 
tax, in a country growing rapidly by immigration, would force the 
immigrants to contribute toward the redemption of bonds owned 
by the original inhabitants and their offspring. 


_e 
- 


GOVERNMENT BORROWING—ITS INCIDENCE 43 


income taxes could be levied on the well-to-do, taking 
for government purposes practically all their surplus 
above their reasonable requirements for current con- 
sumption, that the funds required by government 
would be more certainly obtained by taxation—a com- 
pulsory method—than by borrowing and, particularly, 
that to secure the funds by borrowing would mean 
heavier later taxation of the poor to provide repay- 
ment of the bonds. One thing is clear, viz., that if 
the needed funds are provided at once, by taxation, 
a large part or most of these funds will necessarily 
be provided from the incomes of the relatively wealthy. 
The poor have little to spare. It is not possible to 
squeeze much from them. <A faxation system of \ 
money raising, therefore, if much is raised, and espe- ( 
cially if nearly the maximum amount possible is raised, / 
must involve very sharply progressive taxation. The \ 
funds so raised cannot, of course, be invested in thé 
capital of private business but neither could like sums 
raised by borrowing be so invested. 

If, however, the money needed is raised by bor- 
rowing, then it becomes possible to put more of the 
burden of the emergency financing on the poor, For 
although the poor have only a small surplus and can- 
not contribute much in taxes during the few years 
that an expensive war continues, nevertheless they 
can contribute something each year for an indefinite 


4A THE ECONOMICS OF TAXATION 


future after such a war is over. ‘This annual con- 
tribution can then be used to pay interest on the 
bonds owned by the wealthy and, if it is desired 
eventually to retire the bonds, can be used to repay 
the principal. Herein lies the meaning of the con- 
{ tention that war finance by bond issue means “a 
\mortgage on the masses to the classes.” * 

Doubtless war finance by means of bond issues 
might mean a mortgage of the masses to the classes 
and perhaps, in large part, this is what the American 
Civil War bond issues did mean. Tariff duties, levied 
on articles of general consumption and falling largely 
on the masses were the means of securing a great 
part of the money needed for the redemption of these 
bonds. But financing by bond issues need not inev- ~ 
itably mean this. For the taxes later levied to pay 
back the bonds might be made, as at the present time 
for example, progressive and sharply graduated, or 
they might be levied only on large incomes or large 
property, or only on specific kinds of property or 
specific kinds of expenditure, or could be otherwise 
so adjusted as not to fall upon the masses. 

That some of the above kinds of taxes might in- 
directly fall upon the masses by discouraging accumu- 
lation and raising the rate of interest is not here de- 


1 Cf. Davenport, article above cited on “The War-Tax Paradox,” 
especially pp. 39-41. 


GOVERNMENT BORROWING—ITS INCIDENCE 45 


nied. This may or may not be the case. The shift- 
ing, incidence and effects of various taxes are dis- 
cussed at length in succeeding chapters. But, at least, 
the taxes above suggested do not in the first instance 
so fall. 

The suggestion of a “capital levy” to pay off the 
war debts, which has been advocated in Great Britain 
and elsewhere, is perhaps largely motivated by the 
desire to make the wealthy pay off these debts. By 
a capital levy is meant a tax on the owners of prop- 
erty too heavy to be paid out of annual income. To 
pay such a tax property owners would have to sell 
a part of their holdings. The part sold would pre- 
sumably be purchased, in the main, by the owners 
of bonds whose bonds were being redeemed. In gen- 
eral, the property-owning classes have been antagonis- 
tic to the scheme. Yet if the bonds were to be re- 
deemed, eventually, by heavy taxes on the income 
from their property, the question might plausibly be 
raised whether they might not as well relinquish some 
of this property at once and thereafter avoid taxation 
on the rest (except to meet costs of current govern- 
mental services). But if repayment of the bonds is 
to take place gradually over a period of years, there 
is considerable probability that at least a part of the 
necessary funds will be raised by taxes falling upon | 
others than the owners of property. 


46 THE ECONOMICS OF TAXATION 


Whether or not a progressive tax on incomes might 
in some degree be shifted, ordinarily, upon the poor 
by discouraging capital accumulation and raising the 
rate of interest, the fear of such a result should per- 
haps not operate as an obstacle to such taxation dur- 
ing a war. For in war time, at least in such a time 
as that of the recent World War, little or nothing 
can be spared for the increase—if, even, for the up- 
keep—of capital not needed for war purposes. And 
whether people pay heavy taxes to government or lend 
“until it hurts,” makes no difference either in how 
the funds secured are used or in how much private- 
business capital citizens can accumulate during the 
emergency. 


8 5 


Borrowing and Inflation 


There is, however, another possible consequence of 
the borrowing method of war finance, to which we 
have not so far adverted. This is credit inflation with — 
ensuing rise of prices. It will be worth while to ex- 
plain at some length why and how government bor- 
rowing in war times brings about such inflation. 

Thus far, in our discussion of government borrow- 
ing, we have assumed that the citizen lender, by lend- 
ing, necessarily diminished his own spending power 


GOVERNMENT BORROWING—ITS INCIDENCE 47 


by whatever amount he increased the spending power 
of the government. Thus, if Smith paid $1,000 for 
a Liberty bond and so gave the government $1,000 
additional to spend for materials of war, his own pur- 
chases of goods (other than the bond in question) 
must be reduced by $1,000. 

Taking the country as a whole and assuming that 
those in charge of the banking system steadfastly re- 
fuse to let bank reserves become any smaller than 
these reserves would become if the government were 
not borrowing, then government borrowing would not 
cause or contribute to inflation. If, under these cir- 
cumstances, the banks made loans to government, 
they would have to make fewer or smaller loans to 
business men. And if they made additional loans to 
the purchasers of government bonds, on the bonds 
as security, then they would necessarily make fewer 
or smaller loans to others. It is, therefore, conceiva- 
ble that a nation should engage in a great war, meet- 
ing the expenses of the war by borrowing from (sell- 
ing bonds to) its own citizens, and yet avoid inflation 
and rising prices. But it would be difficult and, prob- 
ably, impossible to find any instance of such a policy 
in the modern, bank-credit-using world. 

Unfortunately, when once the policy of financing 
through bond issues is definitely entered upon, there 
is almost certain to be popular or political pressure 


48 THE ECONOMICS OF TAXATION 


on the banks in the direction of larger bank loans. 
The customary reserve requirements of peace time are 
disregarded and reserves are allowed to become a much 
»smaller per cent. of deposits—deposits-subject-to- 
' check a much larger multiple of reserves—than would 
otherwise be the case. Thus the ratio of reserves to 
deposits of the Federal Reserve banks in the United 
States declined rapidly during the World War and for 
about a year thereafter while the government was still 
in the throes of war financing. The Federal Reserve 
Board seems to have refrained from restricting credit, 
for some time after the armistice, with the idea that 
by thus keeping credit “easy’”’ it would facilitate bor- 
rowing by government at low rates. 

If inflation is decided upon or allowed to take place, 
the citizen can, ostensibly, lend to the government 
without proportionately curtailing his own private ex- 
penditure. Thus Smith, in our illustration, can pur- 
chase a $1,000 bond (lend $1,000 to the government) 
without curtailing his expenditure for consumable or 
capital goods by an equal sum, if he can use the $1,000 
bond as collateral for a loan from his bank. Perhaps 
he may borrow $900 on this bond as security. Then 
in buying the bond (lending $1,000 to the govern- 
ment), he has to curtail his other expenditures by only 
$100. Instead of giving the government $1,000 more 
to spend and himself refraining from this expenditure, 


GOVERNMENT BORROWING—ITS INCIDENCE 49 


he gives the government $1,000 to spend and also (in 
effect) spends $900 ot it himself. The total expendi- 
tures of both the government and Smith, resulting 
from the loan, come to $1,900 instead of $1,000. The 
inevitable result is rise of prices. The citizen for- 
mally lends the government $1,000 to spend and then 
goes into the market with $900 more with which he 
bids against the same government for goods, raw 
material, or labor. Therefore the $1,000 borrowed by 
the government does not go so far in purchases as it 
might and the number of dollars borrowed must be 
greater. 

Except that the inflation is a more direct or imme- 
diate consequence of the loan, the situation is similar 
when the banks themselves buy government bonds, 
turning over to the government newly-made checking 
accounts or newly-issued bank notes. In this case 
the citizens as individuals do not at all curtail their 
purchases since their supply of money and checking 
accounts is not decreased, and government, in order 
to buy anything with this newly-made credit, has to 
outbid them. Prices, therefore, rise, and more dollars 
must be borrowed than would otherwise be necessary. 

The period of inflation may add to the prosperity 
of some classes, but it means a loss to all those classes 
whose incomes do not quickly respond to price changes, 
such as lenders and holders of securities yielding fixed 


50 THE ECONOMICS OF TAXATION 


interest—including the holders of government bonds 
bought before the inflationary movement ends. And 
the succeeding deflation—if deflation in fact eventu- 
ally follows—will not necessarily restore the balance 
among the different persons and classes affected, since 
some who suffered as lénders and as recipients of fixed 
incomes when prices were rising, may be in an en- 
tirely different situation—e.g., may be borrowers— 
when the rise ceases and prices begin to fall. 


§ 6 
Summary 


Government borrowing is a common resource for 
the meeting of emergencies, such as wars. If the bor- 
rowing is from foreigners, the burden of paying may 
be thrown in part or in whole upon a later genera- 
tion of the people of the borrowing country. If, how- 
ever, the borrowing is done at home, the burden to 
the people of the borrowing country, considering them 
as a whole, is a contemporaneous burden. Posterity 
cannot be made to repay since, if retirement of the 
debt is deferred until a new generation can pay, then 
this new generation, as taxpayers, pay themselves as 
bondholders. 

The financing of a war through government bor- 
rowing has been declared to be a mortgaging of the 


GOVERNMENT BORROWING—ITS INCIDENCE 51 


masses to the classes. To get the funds needed by 
current taxation would necessitate taxing the rich at 
a very much higher rate than the poor, because the 
poor cannot possibly spare—if they are to continue 
to live—a very large per cent. of their incomes in 
the war years. But to get the funds by borrowing 
makes it possible to put a larger burden on the poor 
through taxes levied on them or on the goods of their 
consumption over a period of many years, to pay 
back the rich. The poor can pay little during the 
war. They could pay considerable, in driblets, over 
a period of years following the war. Nevertheless, 
though the borrowing or bond-issuing method of war 
finance makes it possible to impose a considerable 
burden, eventually, on the comparatively poor, it does 
not make it necessary to do so. The bonds can be 
redeemed, if it is so desired, with money raised by 
taxes levied only upon the rich. 

When the citizen lends to his government for war 
purposes, he will in some cases curtail his expenditure 
for personal purposes by an equal monetary sum. If 
there were no inflation, private expenditures would 
have to be decreased by as much as public expendi- 
tures were increased. This need not interfere with 
active business. Business men must merely make what 
the government needs and is prepared to purchase i- 
stead of what private individuals want. If produc- 


52 THE ECONOMICS OF TAXATION 


tive activity continues to be devoted to satisfying the 
wants of private individuals, the government cannot 
secure needed war material and military victory is apt 
to be jeopardized. 

But war finance by bond-issues is likely to bring 
about inflation. Citizens buy bonds and then pledge 
the bonds as security for bank loans. Banks buy gov- 
ernment bonds directly with their credit. In both ways 
bank credit tends to be inflated. This could be pre- 
vented by a drastic policy of rigidly maintaining bank 
reserves and restricting bank deposit and note credit 
—as to the desirability of which in other regards no 
opinion is here expressed—but, in practice, it is sel- 
dom or never prevented. Hence, prices rise, the 
amount of money which government must borrow is 
thereby increased, and some classes (e.g., borrowers) 
profit at the expense of other classes (e.g., lenders). 


CHAPTER III 


TAXES ON COMMODITIES COMPETITIVELY 
PRODUCED 


SI 
Introductory 


' Although governments have frequently attempted to 
secure needed goods and services by the issue of paper 
money—really, as we have seen, but concealed taxa- 
tion—and although borrowing has been a not uncom- 
mon emergency resource, nevertheless the main long- 
run means of financing modern governments is taxa- 
tion which is frankly acknowledged to be such. And 
among the various kinds of taxation to which govern- 
ments have resorted and still resort, the taxation of 
commodities has been and is one of the most common. 
The much-criticized gabelle or salt tax of pre-revolu- 
tionary France was such a tax. Our own Federal 
tax upon manufacturers of tobacco, cigars and ciga- 
rettes is such a tax. The Federal tax upon spirituous 
liquors, prior to the adoption of the eighteenth amend- 
ment to the constitution, was such a tax. The tax upon 
moving picture entertainments, though levied on the 
53 


54 THE ECONOMICS OF TAXATION 


production of plays rather than on the production 
of material goods, is a tax of the same species. 

Perhaps a principal reason for the widespread and 
long-continued use of commodity taxes is the fact that 
the general public who, as consumers, are ordinarily 
supposed by economists to pay such taxes in higher 
prices of goods purchased, are not acutely conscious 
of paying. Many of them may admit, in their reflec- 
tive moments, that they do so pay such taxes. But 
even to these the contribution to government is so 
inextricably bound up with the purchase of goods to 
meet their own personal needs when these needs are 
the matter uppermost in thought, that the fact of 
there being a concomitant contribution to government 
is, often, scarcely at all attended to. And as for the 
remainder of the consuming public—they are bound 
up almost entirely in their personal gratification, in 
their attention to the latest baseball game of their 
favorite team, to the latest prize fight, motor race or 
other sport, or to whatever other current type of ac- 
tivity happens to take their fancy, so that, on such 
matters of common interest as taxation, they scarcely 
reflect at all. 

A presentation of the theory of taxation will hardly 
suffice to bring intelligent legislation out of indiffer- 
ence and unconcern. And yet, if there is to be any 


TAXES ON COMPETITIVELY MADE GOODS | 55 


hope at all of a sane solution for our tax problems, 
there must be scientific inquiry into the principles 
of the subject and there must be an increasing pro- 
portion of the public who will comprehend and be in- 
fluenced by the results of such inquiry. 

The first problem to consider in connection with the 
taxation of commodities or with any other kind of 
taxation is the problem of shifting and incidence. As 
was pointed out in the Introduction, we cannot intel- 
ligently decide whether a given tax may or may not 
be wisely levied without knowing upon what persons 
or classes of persons it will probably ultimately fall. 
We must not, however, enter into our investigation 
of incidence with the idea that the solution of the 
problems of incidence can, by itself, bring us to a 
correct conclusion as to what taxes are good and what 
taxes are bad. Even though we may know beyond 
any reasonable doubt upon what classes each of several 
taxes will fall, we do not thereby necessarily know 
which tax among them is the best tax. In order to 
select intelligently among various taxes, we need to 
know not only upon what class or classes each such 
tax falls but also upon what class or classes we desire 
our taxes to fall or believe they ought to fall. But 
while the theory of incidence is only a part of the 
general theory of taxation, it is, clearly, an important 


56 THE ECONOMICS OF TAXATION 


and, indeed, an essential part. For whatever we take 
as our ideal of distribution of the tax burden, whether 
we conclude that taxes should rest chiefly on unearned 
incomes, or chiefly on large incomes, or chiefly on 
consumers as such, we cannot, without a knowledge 
of the principles of incidence, be certain that our 
actual legislation comes anywhere near fulfilling our 
desires. 


§ 2 
Constant Cost or Elastic Supply 


The first kind of taxation with the incidence of 
which we shall concern ourselves is taxation of com- 
modities which are competitively produced. By this 
is meant taxation of non-monopolistic producers or 
dealers in proportion to the output or sales of the 
commodities produced or dealt in. Such taxation, we 
shall see, does not rest entirely and may not rest at 
all upon the producers or sellers of the taxed commodi- 
ties, but is shifted in part or _altogether upon. the 
--consumers. Whether and to what extent a tax can 

be shifted depends upon whether and how far the 
_ tax affects the supply of the thing taxed and, also, 
upon the conditions of demand. In order, therefore, 
that our conclusions may be reasonably definite, we 
must analyze the conditions of supply and demand in 
so far as they are significant for our purposes. 


TAXES ON COMPETITIVELY MADE GOODS _ 57 


From the point of view of exposition, at least, the 
simplest conditions of supply are those which obtain 
under what is called constant-cost. A ana ngha (it 
constant_cost is a condition of absolutely elastic. sup- |’ b 
ply. The cost of any article is measured by the alter- | 
native gains of the labor, capital and land necessary 
to produce it. If more of the necessary labor, capital 
and land can be secured as easily as less; if it is as 
easy to divert a ten thousandth unit of each factor 
into the giverline-of-production as a _tenth unit; if, 
therefore, more ans _capital-and” land ¢ can be secured 
as cheaply per U unit-as- less,— —then the cost of produc- 
tion of the article in question is, “in $0 far, constant. 
Suppose this cost to be $1 per unit of the article. 
Then the amount supplied at the price of $1 per unit 
may be anything between (say) fifteen and five thou- 
sand units. The cost would not probably be constant 
beyond any assignable limit of amount, for sooner 
or later we should find some labor, capital and land 
so relatively well adapted to other lines that a return 
of $z per unit produced would not draw them into 
this line. But if we were to imagine constant cost 
going on indefinitely we might express ‘ic situatio 
by saying that at a price per unit very slightly belo 
$x none would be supplied and at a price very slightly 
above $1 an indefinitely large amount of the article 
_ would be supplied. The amount of the article which" 


58 THE ECONOMICS OF TAXATION 


sellers would dispose of at $1 per unit (the supply 
at that price) would be whatever amount buyers would 
take at $1 per unit. The only price at which demand 
for and supply of the article could possibly balance 
would be a price of $1 per unit. 

It is probably true, as has been above indicated, 
that constant cost or absolutely elastic supply cannot 
be predicated of any commodity through an indefinite 
range. In other words, the cost per unit cannot be 
the same regardless of whether the amount of the 
goods required is ten thousand a week or ten billion 
a week. Nor will it ordinarily be possible, in case 
ten thousand would be supplied at a price of $1 each, 
to get ten billion supplied at a price of $1.0000000001. 
In order that the larger amount should be supplied, 
some labor or some land would have to be drawn into 
the business, which could not be diverted from other 
lines without the offer of a higher price. Neverthe- 
less, within limits, supply may be almost absolutely 
elastic and cost almost absolutely constant. A barely 
perceptible rise of price might increase supply from 
a thousand to a hundred thousand units, for the cost 
per unit, between those limits, might be very nearly 
constant. The slightest enforced reduction of price 
might reduce supply almost to nothing. Nearly all 
the factors engaged in producing the article in ques- 
tion might be marginal at a price of $1. Any lower 


TAXES ON COMPETITIVELY MADE GOODS — 59 


price, therefore, might drive from this line of pro- 
duction all the labor, land and capital engaged in it, 
because leaving less as wages, rent or interest than 
could be secured in some other line or lines. 


$3. 


The Incidence of a Tax on Commodities Produced 
Under Constant Cost 


- Assuming, then, that the production of some given 
commodity is Carried on, ‘between fairly wide limits, 
under conditions of constant ‘cost, lét~us-note the effect 
which would be produced by % a tax on output. Such 
; a tax would, under the assumed _ conditions, be shifted 

upon ¢ consumers as such | in its. sey F or "under 


Kechisenireertarece one seoidabaed 


Pe ew neta 


_ ply), all the labor (including management), all the 
capital and all the land devoted to the production of 
the commodity in question is marginal as between 
this and some other line (or lines) of production. 
Such labor, capital and land will be withdrawn from 
this line and will enter other lines if the tax reduces 
the returns received even by a little while the returns 
to be expected in other lines remain as before. Hence, 
unless the price of the taxed goods rises by the amount 
of the tax, not any of these goods will be produced 
and sold. Consumers must pay the whole tax or get 


60 THE ECONOMICS OF TAXATION 


none of the goods. The higher price so caused will 
doubtless decrease. demand,.-.Consumers-will-_buy_less 
than..beforeof.the goods taxed. But unless they pay 
the entire tax they will not get any of the goods in 
question: for-not- ‘any will -be-produced..... The burden 
of the tax therefore distributes itself among all con- 
sumers of the taxed goods, including, of course, the 
producers of these goods in so far as—but only in 
so far as—they are consumers of them as well. 

To illustrate, if wheat were produced at a constant 
cost of $1.00 a bushel this would mean that while, 
at a price of $1.00, hundreds of millions of bushels 
could be had, yet, at a price of 99 cents a bushel, 
none could be had. Every wheat producer would be 
marginal at a price of $1.00. Otherwise expressing 
the matter, no single producer would be willing to 
remain in the business for a less price but would, if 
the price were 99 cents, produce some other good or 


goods instead. If, then, a tax were imposed of 50 


cents a bushel, consumers would have to pay $1.50 a 
bushel or they would get no wheat. As a matter of 
fact only a part of the producers of wheat—probably 
a very small part—are marginal and would leave the 
business were their returns somewhat reduced. We 
shall discuss, in a later section,* the incidence of a 
tax when only a few producers are marginal. As- 


1§7 of this chapter (III). 


oe 





TAXES ON COMPETITIVELY MADE GOODS 61 


suming, as we are here doing, that all of them are 
marginal, there can be but one possible result of a 
tax levied on the goods of their production, viz., the 
shifting of the entire tax upon the consumers of the 
taxed goods. 

Under conditions of constant cost, then, a tax.on 
commodity or gross output is entirely shifted upon 
the consumers of the commodity taxed, because the 
tax affects supply so sharply, i.e., because, unless 
the tax is entirely shifted, the factors of production 
would drop out of the industry and all of the supply 
would cease. Indeed even if not all of the labor, cap- 
ital and land involved are marginal, but if most of 
it is and would, therefore, leave the industry rather 
than bear any of the tax, the tax may be entirely 
shifted. For if only a very small amount of the 
goods could be secured from producers who were 
willing to bear a part of the tax rather than to move 
into other industries, and if the demand for the goods, 
even with the tax added to the price, were great 
enough to require other producers in the field in addi- 
tion, then demand and supply could only balance at a 
_ price higher than before by the amount of the tax.’ 

1JTt may help to get the solution of the problem clearly in our 
minds if we attempt to express it by diagram—to use the so-called 
demand and supply curves or lines. In constructing the demand 


and supply lines it is customary to measure prices from the OX 
axis upward (see figure 1), and to measure the amounts that 


62 THE ECONOMICS OF TAXATION 


8 4 


Commodity Taxation and the General Price Level 


When we come to consider the effect of commodity 
taxation from the point of view of the general price 
level, we must note that this general level is not neces- 


would be offered and that would be purchased at each such price, 
to the right. Since, at a higher price, less of a commodity would 
be bought by purchasers than at a lower price, the demand line 


Y 





O 


FIGuRE I. 


is nearer OY at the high prices and farther from OY at the 
low prices, lower down. The line DD in the diagram represents 
demand. Each point of this line indicates the amount that 
would be bought (measuring to the right) at a given price (meas- 
uring up). 

In our present discussion we are assuming an absolutely elastic 
supply, at least between certain limits. This means that at a 


TAXES ON COMPETITIVELY MADE GOODS _ 63 


sarily—or even probably—made higher by virtue of the 
tax. If the price of the taxed goods rises, then other 
prices, including wages and rents, will be likely to fall 
by a substantially equivalent total amount. If the 
taxed goods rise in price, because of the tax, by 9 per 
cent. but make up only 1/r1oo of all trade, then all 


given price the amount supplied may vary anywhere within these 
limits. Our supply line, therefore, SS, must be, between these 
limits, a line parallel to the base, OX. The price per unit at which 
the article can be supplied is measured by the distance up from 
the base line OX, and the amount which can be supplied at each 
price is measured by the distance to the right from the vertical 
line OY. The line SS is the locus of all points so determined. 

Let us now assume a tax to be levied on each unit of output, 
the height of which tax is measured by the perpendicular distance 
from the line SS to the line S’S’.. Each worker, capitalist or 
landowner who has to pay such a tax must get a return enough 
higher than before so that even after paying the tax he is as 
well off as he would be in an alternative industry, or he will enter 
such an alternative industry. Or, if the tax is levied first on the 
entrepreneurs, each entrepreneur who continues in the business 
must get a return high enough to pay the tax, give himself as 
large a net return as he could get elsewhere and permit him to 
pay the wages, interest and rent necessary to prevent diversion 
of his entire labor, capital and land supply to other lines. Under 
the assumed conditions of constant cost, therefore, the price at 
which a thousand or ten thousand or a million units of the taxed 
article can be supplied is higher than before by substantially the 
amount of the tax. (See, however, discussion in the next sec- 
tion (4) of this chapter.) The effect of the tax is to make the 
supply line higher than before. The new supply line, S’S’, is 
parallel to the old one, SS, as well as to the base line, OX, and 
is higher than SS by the height of the tax. It follows that, no 
matter where the demand line, DD, intersects the new supply 
line, S’S’, the point of intersection must be above the point of 
intersection of DD with SS by a distance which measures the 
height of the tax. 


64 THE ECONOMICS OF TAXATION 


other prices may fall by an average of 1/10 of 1 per 
cent. This means, not that the price of the taxed goods 
rises by exactly the amount-ofthe tax, but rather that 
the price of the taxed goods rises by nearly the amount 
of the tax and that other prices, on the average, in- 
cluding money incomes, slightly fall* Were we to 
assume that there was no money and that all buying 
and selling of goods was exchange in kind, we should 
have to conclude that the price of the taxed goods 
in terms of other goods would be higher than before 
by exactly the amount of the tax levied.2 But the 
fact that, in a money economy, the taxed goods rise 
by slightly less than the tax and that other prices 
slightly fall is, for practical purposes, a very minor 
point, and it remains true that the price of the taxed 
goods would have to be higher, by the amount of the 
tax, than the price which would give for the labor, 
capital and land occupied in their production, what 
these factors could now get in other lines. For what 
they could now get, after the tax has raised the price 


1 We are here eliminating from consideration possible effects on 
international trade and the flow of gold between nations. Thus, 
the tendency of the prices of some goods to fall, if these were 
goods likely to be exported, might stimulate exports and cause an 
inflow of gold and a rise of prices, so that the untaxed goods would 
be about as high as before the tax was levied and the taxed goods 
higher by almost the exact amount of the tax. 

2 Plus compensation for any extra labor or other sacrifice inci- 
dent to reckoning and paying it. If the producer or dealer has to 
advance a tax, he may charge interest on it in his price. 


pet, ee 


TAXES ON COMPETITIVELY MADE GOODS 65 


of the taxed goods, tends to be less, as do other prices 
in general. 

To show that the effect of the tax, while raising the 
price of the taxed goods by almost the amount of the 


“tax, is to_lower_s slightly, on the average, the ] prices 


“of ‘other goods and of labor services, it is necessary. 

to allu @ to the relation between the vc volume 0 of money — 
_and credit™ on the “one hand and_ nd prices ¢ on the: other. 
credit to spend, or an increased disposition to spend 
what is on hand, or a diminished available supply of 
goods, the rise of some prices means a fall of other 
prices. And the significant fact for our purpose is 
_that although a tax ay raise the price of the taxed 
article and, under the conditions “heré~ assumed, will 


do so, it does not increase the amount of 1 money, ‘the 


AAA A erreasnapt 


credit-providing _ facilities. ofthe banks or “the dis- 
position to spend ‘money for goods; neither does it 
“necessarily make “goods-in- -general _ any scarcer, al- 
though it is likely to decrease production of the goods 
taxed by diverting labor, capital and land into other 
lines.” 

Let us suppose, now, a tax on some article, of 50 


cents a unit, say 50 cents a yard on cloth previously 


1 Under conditions of increasing cost—not now the subject of 
discussion—a tax, by diverting labor, capital and land into lines 
for which they are relatively unfitted, might somewhat diminish 
the total output of goods. 





66 THE ECONOMICS OF TAXATION 


worth $1 a yard. This would mean that the cloth, 
if produced under conditions of constant cost, must 
rise in price by 50 cents a yard or, if other goods fall 
somewhat in price, by very slightly less. In any case, 
the rise is likely to be very nearly 50 cents a yard 
if the cloth is produced under conditions of constant 
cost. If, now, the cloth has risen in price, because 
of the tax, to nearly $1.50 a yard, either people will 
buy about as much of the cloth as before or they will 
not. If they do buy as much as before, or anything 
beyond. two- thirds as much, they will therefore have 
less money to spend for other things than would else 
be the case. Then, the demand for other goods: fall- 
ing, these other goods would tend to fall slightly in 
price. If, on the other hand, the. high. price of cloth, 
consequent on_the tax, causes less cloth to belhouahe 
than before, then_some of those _ who were engaged in 
producing..the. cloth will have to turn to other lines 
of production, will increase the supply of other goods 
and will so tend, by their competition, to lower the 
prices of the goods not taxed; but also the money 
wages of labor and the money returns to the other 
factors of production tend to become slightly lower. 
The slightly lower money incomes are offset, of course, 
by the slightly lower money prices so that the incomes 
in terms of goods are no less—except that the taxed 
goods are higher. ‘The tax burden therefore falls upon 


TAXES ON COMPETITIVELY MADE GOODS 67 


consumers in agen as they are consumers of 
“Tower all, money i incomes ead to raise e all prices of 
goods: The incidence of such a tax would, of course, 
“be on consumers. A tax on ‘sales. pik ‘similar except 
“that, if levied every time an article 1s) sold, it may be 
levied ‘a number of times on the same article. A tax 
_on.sales;- therefore,-would fall upon consumers. of the 
goods sold. 

~ } § 5 


A Qualification 


But although a tax on all commodities of a given 
kind produced under conditions of constant cost will 
be shifted entirely to the consumers, a tax on only a 
part of such commodities will not be. Thus, assuming 
cloth production to be an industry_of constant cost, 
_ a tax on cloth manufacture levied..by-.Massachusetts 

alone among~the” United- ‘States would not raise the 
price “of “cloth2~ “Tt would merely cause its production 
“in Massachusetts to cease. But if the tax were/levied 
by the Federal government ‘and ‘applied both to im- 
ported and” ‘domestically- produced goods, the price 
would rise by a substantially equivalent amount.’ 


1 Cf. Sisehian: The Shifting and Incidence of Taxation, fourth 
edition, New York (Columbia University Press), 1921, pp. 249- 
250. 
2 See, however, Chapter X, § 6. 


68 THE ECONOMICS OF TAXATION 
§ 6 
The Nature of Increasing Cost 


Let us turn now to the case of increasing cost. By 
this is meant that it costs more for each additional 
unit when more goods of a given sort. are produced 
than when fewer are produced.'.. The increased cost 
of production may be an increased‘labor cost, an in- 
creased capital cost or an increased land cost. To 
produce an indefinitely larger amount of any com- 
modity may involve increased labor cost because it 
requires new labor relatively unfitted for the work but 
well enough paid in other lines so that only fairly 
good pay will attract it to this; or because it requires 
persons who, though well enough fitted for the work 
in question, are able to command such high wages 
in other lines that only high pay will attract them; 
or because it requires persons who find the work so 
relatively distasteful that only large pay will induce 
- them to go into it. A large production may therefore 
cost more per unit in wages and a small production 
less per unit. A limited volume of the goods desired’ 
can be produced with relative cheapness. But beyond 

1Cf., on the analysis of cost, Davenport, The Economics of En- 
terprise, New York (Macmillan), 1913, pp. 73 and 77-82. Cf. the 
present writer’s Economic Science and the Common Welfare, 


Columbia, Mo. (The Missouri Book Co.), 1923, Part II, pp. 13 
and 70, 


TAXES ON COMPETITIVELY MADE GOODS 69 


a certain point any considerable addition may bring 
a more than proportionate labor cost. The labor of 
management of the entrepreneur or business enter- 
priser is not to be distinguished in this regard from the 
labor of hired employees. To get more of any article 
produced it may be necessary to draw into its pro- 
duction entrepreneurs who are relatively unfitted for 
it or entrepreneurs who, though they can produce 
these goods efficiently, are able to make such large 
returns in other lines that only large returns in the 
line in question will induce them to enter it. 

The same principle applies in the case of capital. 
To get more of any specific article produced may 
require the use of capital instruments so relatively 
ill adapted to the purpose that they can be diverted 
to that purpose only by a higher price for the article. 
A reduced return, on the other hand, while it would 
cause some capital to leave the business, would leave 
still in it, for a long time, capital instruments so well 
adapted to producing the given article and so ill . 
adapted for other purposes that, despite its lowered 
returns, the capital could not advantageously be 
otherwise used. Indeed, some capital is so highly 
specialized that it cannot be used in any other way 
without first being partially destroyed and recon- 
structed. 

But in the case of capital it is particularly necessary 


70 THE ECONOMICS OF TAXATION 


to make a qualification which has, indeed, some im- 
portance in the case of labor also. Labor which is 
adapted to one line and not to another may, through 
a process of reéducation or practice, become adapted 
to that other. But, even if it does not, a new gen- 
eration may bring about a readjustment of the num- 
bers in different lines such that the line in increased 
demand no longer has to be much better paid. In 
the case of capital, as has been above hinted, an in- 
strument may sometimes be partly destroyed and re- 
constructed. But whether it can or not, capital in- 
struments wear out and have periodically to be re- 
placed. And new capital can as easily go into one 
line as another. Hence, in the long run, any industry 
should be able to command the use of a much in- 
creased proportion of the available capital of a coun- 
try or of the world, without having to pay an appre- 
ciably higher interest. The situation is not quite anal- 
ogous to that of a new generation of laborers, for al- 
though a new generation makes, in large degree, new 
choices of occupations and develops new aptitudes, 
nevertheless laborers are born with certain capacities 
and tendencies and are, besides, largely influenced by 
the surroundings and opportunities of their youth. 
Increasing cost needs to be considered, also, in 
relation to the third factor of production, land. To 
get more of any article produced, e.g., wheat, may 


TAXES ON COMPETITIVELY MADE GOODS 71 


require the diversion from other purposes of land 
relatively ill adapted to the production of wheat and 
which will not be so used except on the condition of 
a higher wheat price. And, on the other hand, a re- 
duced return for wheat raising will cause some wheat 
land to be otherwise used but will still leave in wheat 
production land which is so well adapted to it or so 
poorly adapted to other purposes that even with a 
lower return change is not advantageous. A higher 
price may also draw into the production of wheat, 
land previously unused (it might, also, conceivably, 
draw into the labor of wheat production persons pre- 
viously idle, but this is of slight importance if true); 
and a lower price may cause the entire abandonment 
of land previously used to raise wheat. The more 
intensive use of land already used in wheat production 
also involves higher cost per bushel, because of the 
fact of diminishing returns in proportion to the labor 
and capital used under these conditions, although the 
additional labor used may be equally as efficient as 
the old. 

We conclude, then, that increased production of a 
good may involve greater marginal cost—greater cost 
for each additional unit—and that decreased produc- 
tion may involve diminished marginal cost.’ 


1Seligman’s conception of marginal cost, as presented in the 
recent (fourth) edition of his book on The Shifting and Incidence 


72 THE ECONOMICS OF TAXATION 


It is not unreasonable to suppose that the principle 
of increasing cost applies to all industry if only pro- 
duction be extended far enough. Doubtless it is true 
that in certain lines the advantages of division of 
labor and of using the most effective machinery make 
production on a large scale cheaper than production 
by a few scattered workmen. The advantages of 
effective codperation offset, for a while, and may more 
than offset, the tendency to increasing cost. But if 
production be still further extended, it becomes nec- 
essary to draw laborers and land out of lines to which 
they are relatively well adapted or which (in the case 
of laborers) they prefer, into the given lines, and 
this involves increased cost which is not likely to be 
indefinitely compensated by more effective codpera- 
ton, through the utilization of more expensive equip- 
ment, etc. Particularly will cost increase with increas- 
ing production when the size of plant in the industry 
in question has already become the most efficient, so 
that there is no longer any economy in larger scale 
operation. Under such circumstances, increased pro- 


of Taxation, pp. 234-236, is not at all the same as the conception 
presented here. Seligman would think of the marginal enterpriser 
in any given business as necessarily being the one who is least 
efficient and on the verge of failure. But the most successful 
enterpriser might be marginal if he believed he would be equally 
successful in another line. Labor (including both managerial and 
employed), land and capital may all on occasion be marginal 
between two given industries. 


TAXES ON COMPETITIVELY MADE GOODS 73 


duction of goods requires new plants. Land has to 
be drawn from other uses to the given use; and labor 
has to be drawn from other employments to the given 
employment. But this labor will not be hired nor 
this land used for the given purpose unless the price 
of the goods is expected to justify it. In other words, 
the marginal cost of producing the goods is higher 
if more is produced and lower if less is produced. 


$7 


The Incidence of a Tax on Commodities Produced 
Under Increasing Cost 


aon 


In the case of production under increasing ae a / 
tax on ¢ output will ordinarily be only partly shifted / 
upon consumers as such and will rest in some degree | 
upon one or more of the so-called factors of produc- \ 
tion. Thus, suppose an article to be produced. under— 
conditions of increasing cost and to be selling at a 
price of $2 per unit, this being the price at which 
demand and supply balance. Some land and labor 
is marginal \at this price and will be withdrawn if 
remuneration, is any less, A tax is levied of 20 cents 
per unit. Will the price probably rise by an equiva- 
lent amount?, If the price is raised to $2.20, less 
will presumably be bought of the taxed commodity 
than would be purchased at $2. If less is bought, then 


44 THE ECONOMICS OF TAXATION 

less labor, capital and land will be required for this 
kind of production. Competition will lower the price 
of the commodity and will tend to lower the wages 
paid and the rental income of the land.t Labor and 
land which are marginal between this and other in- 
dustries will be driven out. At a price somewhat be- 
low $2.20 but above $2, enough labor, capital and 
land will remain in the industry to provide for the 
now diminished (since price is something above $2) 
demand. Suppose the price reaches a new equilibrium 
at $2.13. At this price the demand is less than it 
would be at $2. But since the new price nets the 
producing factors only $1.95, the amount supplied 
is also less than it would be with a net price of $2. 
Wage earners in the industry get slightly lower wages: 
but remain in it—except those marginal or near-mar- 
ginal ones who do not remain—because it continues 
to be, all things considered, preferable to other action. 
Owners of land and capital, though they also may 
receive less than before from the production of the 
taxed goods, keep these means of production in the 
industry—except where they are marginal or near- 


1 And, temporarily, the interest on the capital in the industry. 
But when the old capital wears out and new must be had, the new 
capital can hardly be obtained for less than is received in other 
lines. Distaste for an industry is not an element of such im- 
portance in relation to capital as in relation to labor. 


TAXES ON COMPETITIVELY MADE GOODS 7s 


marginal—because, even despite the tax, nothing else 
seems better worth while. 

As in the discussion of taxes on goods produced 
under constant cost, so here, it should be pointed out 
that the high price of the taxed goods may operate 
somewhat, either by decreasing the currency available 
to spend for other goods or by forcing some labor, 
land and capital into other industries and slightly 
increasing, there, the supply of these factors and of 
goods, to lower prices and money incomes a very 
little in these other lines. It is not to be supposed 
that the tax will raise the general average of prices 
and money incomes except as it may decrease efficiency 
by diverting factors of production out of their best 
lines and so affecting total production. Otherwise, the 
increase of price of the taxed article tends to be offset 
by a decrease of other prices, including in these other 
prices, wages, interest and rent. In any case, the 
tendency will be for the average of money incomes 
fo fall. == 

To make clearer the way in which a tax on output 
in the case of increasing cost may be diffused, let us 
consider the case of a $2 tax per ton when the coal 
is produced from mines of varying richness and ac- 
cessibility. From mines of class A, coal can be pro- 
duced for $3 a ton. Mines of class B are not worth 
operating unless the possible price is $5. Mines of 


46 THE ECONOMICS OF TAXATION 


class C will be unused unless the possible price is $6.* 
Suppose the price which equalizes demand and sup- 
ply to be, prior to the introduction of the tax, $6, the 
consuming public requiring the use of some or all of 
the class C mines in order to have enough coal, and 
being willing to pay $6 to get the desired amount. 
Will the price rise to $8 after the tax of $2 a ton 
is levied? Probably not. A price of $8 will almost 
certainly curtail demand. And unless a large propor- 
tion of the supply comes from mines of class C, de- 
mand may be so far curtailed, even with a price of 
only $7, that the mines of class A and class B can 
satisfy it. The result of a $2 tax might therefore 
be a rise of price from $6 to $7, abandonment of the 
C mines, and continued operation of the A and B | 


1The condition of “diminishing returns,’ as it bears on the 
problem of the incidence of taxation, has reference to the fact that, 
at any given time, a larger supply requires a higher price than a 
smaller supply. It does not have reference to changes, such as 
soil exhaustion or the drawing out of the minerals from a mine, 
taking place over an extended period. The question how far a 
tax levied, now, will cause ‘a price to rise, cannot be solved by 
inquiring whether, in twenty years, certain resources will be ex- 
hausted. Yet Seligman, in his book on The Shifting and Incidence 
of Taxation, fourth edition, p. 241, says: “The action of the law 
of diminishing returns manifests itself in two ways: In the first 
case of diminishing returns ... typified by agricultural land, the 
actual produce becomes yearly less; in the second case, illustrated 
by mining or badly conducted forestry, the nominal produce may 
remain the same, but the actual return on the investment of 
capital becomes continually smaller.” 


TAXES ON COMPETITIVELY MADE GOODS 77 


mines," The tax might involve, also, a less intensive 
use of the A and B mines, the passing by, for instance, 
of some of the poorer veins. It might not pay to 
hire so many men to exploit these mines. 


1Jt ought not to be necessary, in the present stage of economics, 
to insist over and over again that the shifting of a tax on goods 
produced in a competitive industry is consequent upon how the tax 
affects supply. If the tax lessens supply then demand and supply 
will balance at a new and higher price. If it does lessen supply, 
the price will not be kept from rising—say the price of wheat—by 
any deliberate plan on the part of some hundreds of thousands of 
independent producers, such as Professor Seligman seems to im- 
agine in the following passage (The Shifting and Incidence of 
Taxation, fourth edition, p. 268): 

“Suppose that in three countries, A, B, and C (let us say the 
Argentine, the United States and England), the cost of producing 
irrespective of taxation, a bushel of wheat at a given time is 
50, 70 and 90 cents, respectively, and that the conditions of the 
market are such that the wheat sells at the moment at 70 cents a 
bushel. If a tax of 5 cents a bushel is imposed in each of these 
countries, what will happen? In the long run, indeed, the tend- 
ency would obviously be for the price to rise to 75 cents. The 
long run, however, may never come to pass. The producers in 
country A, who have the whip hand, may fear that if they put 
up the price to 75 cents they may spoil the market for the next 
year, by inducing country B to increase its acreage or preventing 
C from diminishing its output. This consideration, together with 
the fact that they are already making large profits as intra- 
marginal producers, may lead the producers in A to be content with 
the old price, despite the tax.” 

No comment will here be made on the supposition that all the 
producers in any one country have the same “cost.” But can we 
imagine the farmers of “country A” each sitting on his own fence 
and deciding not to charge for his wheat as much as the current 
market conditions would allow him to get, in the fear that, if 
they did, country B might “increase its acreage” or country C be 
prevented from “diminishing its output’ ! 


78 THE ECONOMICS OF TAXATION 


If the article taxed were produced on land which 
could be used for something else, the tax might not 
cause abandonment of any of this land, as in the case 
of the C mines, but might instead cause diversion of 
it to other purposes. And conceivably the best land 
for the taxed purpose—if it were also sufficiently well 
adapted for other purposes—might be so diverted as 
well as the worst. Similarly, as we have already seen,* 
a tax may divert to other lines some of the labor or 
capital, or both, employed in the taxed line, but may 
leave in the taxed line enough labor and capital, even 
though the tax is but partly shifted, to a se the 
now reduced demand. 


§ 8 
Supply and Demand in the Case of Increasing Cost 


Taking into consideration the marginal and non- 
marginal elements in the various factors of produc- 
tion, we can assume for some article the following 
supply and demand schedule: 


Supply Price Demand 
6 million pounds 12centsperpound 2 million pounds 
5 cc ce Io T4 cc « 3 ce if 9 
<9 ce <3 a4 cc cc ce 
y UIA Raed - Up eaa re anna EY. 
3 ce if 4 6 ce <9 ce 5 a9 & 


cc <4 (<3 €¢ <4 (f4 cc 
2 4 7 


I & «“ 2 cc ‘<3 ce IO ce 44 


1 This section. 


TAXES ON COMPETITIVELY MADE GOODS 79 


The price will of course be fixed where supply and 
demand are equal, viz., at 8 cents per pound. If, 
now, we suppose a tax of 4 cents a pound, all those 
elements or factors in production which were mar- 
ginal at 8 cents will be marginal at 12 cents and it 
will require a price of 12 cents to get the same supply, 
4 million pounds, as was previously available at 8 
cents. Similarly, to get a supply of 3 million pounds, 
the price must be 10 cents instead of 6 cents. We 
may, therefore, construct a new supply schedule, the 
figures in which correspond with those of the supply 
schedule above, but at prices, for each supply, 4 cents 
higher than before, viz.: 


Supply Price 
6 million pounds 16 cents per pound 
5 <9 (T9 14 79 cc cc 
4 ce <4 I2 <9 “ ce 
3 cc cc Io 79 ce “ 
2 <9 cc 8 ce «“< ce 
I (<4 (74 6 a4 <9 ce 


Let us now put together our original demand schedule 
and our new supply schedule: 


Supply Price Demand 
6 million pounds 16 cents per pound 
5 <9 ‘<9 14 9 a9 “ce 


SEF eR a ee 2 million pounds 


3 ce & 10 its ce ce 3 “ce it 


ove 


80 THE ECONOMICS OF TAXATION 


Supply Price Demand 
(<4 “¢ 8 (<4 (74 (<4 4 (f4 é¢ 
« (<4 6 ce (<4 if 5 74 cc 
(<9 cc 79 ce «cc 
4 7 
2 <4 «¢ 4 Io <4 (14 


We then find that the price which equalizes supply 
and demand is 1o cents instead of 8 cents as before. 
A tax of 4 cents has caused a price rise of 2 cents. 
Under somewhat different conditions of supply or de- 
mand, or both, it might have caused a price rise of 
1 cent, 2.5 cents, or 3 cents, or some other amount 
not above 4 cents.* 


1 Suppose, next, we represent our schedule by supply and demand 
lines or curves. Each point on the supply curve will be fixed by 
measuring the price vertically upward from the base line OX 
and the amount that would be supplied at that price to the right © 
from the line OY. The locus of all such points makes the supply 
curve or line. Similarly, we represent the amount that would be 
demanded at each price by measuring the price upward and the 
amount demanded at that price to the right; and the locus of such 
points is the demand curve or line (see figure 2, on page 81). 

The demand curve or line is unaffected by our assumed tax of 
4 cents per unit. If the price rises, less will be demanded, but 
this fact is already expressed in our original line representing 
demand (see figure 2), since the higher points which represent 
demand at the higher prices are nearer the OY line, thus indicat- 
ing less demand at those prices. The supply line, however, is af- 
fected by the tax, since each possible supply—measured to the right 
of the OY line—is now forthcoming only at a price—measured 
up from OX—higher by the amount of the tax than was necessary 
to bring out a corresponding supply before the tax was levied. 
In other words, the new supply line (after the tax) is exactly 
parallel with the old and is higher than the old by the amount 


TAXES ON COMPETITIVELY MADE GOODS 81 


§ 9 
Long Run and Shori Run Shifting 


Before quitting the consideration of the shifting 
of taxes on commodities competitively produced under 


of the tax. In the figure below (figure 2), the demand line is 
represented by DD, the original supply line by SS and the supply 
line after the tax by S’S’. It is to be noted that the point of 
intersection of supply and demand lines is higher after the tax 


D 





O Xx 


FIGURE 2. 


than before, but not by the entire amount of the tax, ie., not by 
the entire vertical distance between SS and S’S’. 

In the illustration chosen, the demand was somewhat elastic, 
i.e., a higher price was assumed to result in fewer sales (a smaller 
demand) than a lower price. Since, also, most producers would 
take less rather than cease production (production being under 


82 THE ECONOMICS OF TAXATION 


conditions of constant and increasing cost, we should 
make a distinction between the long-run and the short- 
run shifting of a tax. Suppose, for instance, a tax of 
$1 a pair to be levied on all the manufacturers of 


conditions of increasing cost), only a part of the tax could be 
shifted upon consumers. But suppose demand for the taxed com- 
modity were, within wide limits of price, absolutely inelastic! 
Then, within these limits, as much would be bought at a high 
price as at a lower. Doubtless there is no case of an absolutely 


Beyer 


/ 


Yj 






O x 


FIGURE 3. 


inelastic demand. An approximation to such a demand might be 
found in the case of some relatively inexpensive surgeon’s instru- 
ment which no one but a surgeon would buy, however cheap, and 
which almost every surgeon would purchase even at a much 
higher price. Such a demand would be represented diagram- 
matically by an almost vertical line, every point of which between 
certain prices—say, in our example, between 4 cents and 16 cents— 


TAXES ON COMPETITIVELY MADE GOODS _ 83 


all shoes. Would most of the manufacturers quit the 
business rather than accept smaller returns? Would 
most of the owners of the land and buildings devoted 
to producing the shoes, turn their property to other 
uses rather than to accept lower rent and interest 
on their property? Would most of the workers in shoe 
manufacturing plants turn to other kinds of work 
rather than to accept lower wages? Would persons 
who were about to invest new capital in the industry 
and young men who were about to enter the industry 
as workers, divert their capital and their labor respec- 
tively to other industries rather than take diminished 
earnings because of the tax? Unless the land, capital 
and labor already im the industry is marginal or 
nearly so, so, the tax may have no very great immediate 


effect upon supply and it may not, therefore, be im- 
mediately shifted, in any large degree, to consumers. 


Sathors SERENE A 


was about the same distance from the line OY. If we reconstruct 
our diagram (see now figure 3, on page 82), substituting such a 
demand line for the one in figure 2, we shall see that the result 
of the tax, in the case of such a demand, would be to raise the 
price by practically the entire tax. On the other hand, were de- 
mand absolutely elastic, so that the slightest rise in price would 
decrease sales to zero, no part of the tax could be shifted upon 


the consumers. : ; 
(Seligman, in his Shifting and Incidence of Taxation, fourth 


edition, p. 220, defines inelastic demand in a way which seems to 
the present writer utterly inconsistent. He says: “The demand 
may be inelastic in the sense of being constant, so that it always 
remains the same; or it may be inelastic in the sense that any 
attempted increase completely destroys the demand.’) 


84 THE ECONOMICS OF TAXATION 


The machinery used for shoe manufacturing may not 
be, practically, usable for anything else. And the 
men who have spent a lifetime in the work of making 
shoes, though they would not, in many cases, have 
chosen that work had they foreseen the tax, may re- 
alize that only if the tax is very high can they afford 
to leave the occupation in which they have acquired 
skill for one with which they are totally unfamiliar. 
(Although, as a long-run proposition, the industry may 
‘approximate conditions of constant cost, it is likely, 
as a short-run proposition, to be an industry of in- 
creasing cost, at least so far as our present problem 
is concerned. That is, it is an industry in which, 
perhaps, some few workers and property owners are 
marginal but in which many are supra-marginal so 
that they would remain in, or would keep their capital | 
in, the business even at considerably smaller return, 
and a tax on their output might conceivably not be im- 
mediately shifted to consumers or might be shifted in 
a smaller degree. 

But the same industry, as a long-run proposition, 
might be much more nearly an industry of constant 
cost, so that’a tax upon its products would be, in the 
long run, almost entirely shifted upon consumers. 
For although the tax might not cause owners of spe- 
cialized capital to attempt diverting it to other lines 
of production, it would induce them to divert into 


TAXES ON COMPETITIVELY MADE GOODS 85 


other lines their depreciation funds which were be- 
ing set aside for replacement of worn-out and ob- 
solete capital and it would induce them and others 
to make any new investments elsewhere rather than 
in the taxed line. Similarly, although such a tax might 
not cause many men who had thoroughly learned to 
carry on one of the kinds of work required in shoe 
production, to undertake learning any new trade, even 
though the tax considerably lowered their wages in 
the old, yet as these workers died or became super- 
annuated, the lower wages consequent on the tax might 
greatly restrict the entrance into the trade of a new 
generation of workers and might so, by limiting the 
supply of the shoes, very considerably raise their price, 
and make possible eventually, for those who did enter 
the trade, wages corresponding to those in other lines. 

Since, during the lapse of such a period, there may 
be changes in taste, changes in the technology of 
production, and currency inflation or deflation, it is 
of course never possible to predict that the price of 
the taxed article w#ll be higher after the tax than 
before; still less is it possible to predict how much 
higher it will be or how long it will take for it to 
be higher. But we can say that the price will eventu- 
ally be higher, if the tax is levied, than it would be 
with all other conditions the same, if the tax were 
not levied. If it falls, despite the tax, because of 


86 THE ECONOMICS OF TAXATION 


other conditions, then it would fall more except for 
the tax. If it rises, then it rises more than it would 
if there were no tax. The effect of the tax, taken 
by itself, is in the direction of a higher price. 


§ 10 


The Case of Decreasing Cost 


In some studies of incidence, attention is devoted 
to the taxation of goods produced under conditions 
of decreasing cost. It is supposed that some goods 
are produced under conditions such that a relatively 
large production involves a smaller cost for each unit 
produced than a relatively small production.’ “For 
the most part this condition is ordinarily believed 


1 The condition of “increasing returns,” in so far as it has any 
significance in the matter of the shifting of taxation, has refer- 
ence to the fact that, at any given time or during any given 
period, a larger supply can be produced at a lower unit cost than | 
a smaller supply. It does not have reference to the possibility 
that methods of production may so improve as to make possible 
lower unit cost in (say) twenty years than now. Yet Seligman 
in his Shifting and Incidence of Taxation, fourth edition, pp. 
242-243, says: “Thus, where industry is not stationary or retro- 
grading, the natural selection of entrepreneurs means production 
at a diminishing cost.... Suppose, for instance, that in any en- 
terprise the economies resulting from concentration and the lower 
cost due to natural selection of the producers, are just about 
counterbalanced by the difficulties of securing additional room for 
production, or by drawbacks connected with the marketing of an 
increased output. In such a case, where the forces making for 
increasing returns and those making for decreasing returns are 
evenly balanced, the result will be production according to the law 


TAXES ON COMPETITIVELY MADE GOODS 87 


to be due to large-scale operation.t A larger produc- 
tion is believed to be cheaper than a smaller produc- 
tion in the same plant or under the same management, 
because of supposed advantages of large-scale produc- 
tion. Some of the alleged advantages of such pro- 
duction are, within limits, very real. Thus, certain 
goods may be produced most cheaply by hand if only 
a small quantity can be marketed, somewhat more 
cheaply by simple machinery if a greater quantity 
can be sold, and still more cheaply by large and com- 
plex machinery if enough can be sold to justify the 
purchase and use of expensive instruments. Likewise, 
increased scale of operation under the same manage- 
ment, without proportionately increased expenses for 
managerial force, advertising and salesmen, may mean 
cheaper average production for each concern in the 
business. The marginal cost of additional units, is 
also less than the marginal cost if only a few goods 
are produced. But when cost decreases with increas- 


of constant returns.” And then, with never a hint that “increas- 
ing returns” considered as a historical process taking place over 
a period of years is not “increasing returns” in a sense relevant 
to the problem, Professor Seligman goes on (page 245) to con- 
sider the incidence of taxes levied on commodities produced under 
conditions of “increasing returns.” 

1 Although there is no intention to deny that there may be some 
economies of production—e.g., the growth of a large available 
specialized labor force—resulting from the mere increase of total 
production and not dependent upon large production by a single 
establishment. 


88 THE ECONOMICS OF TAXATION 


ing output, a concern which charged a price covering 
only marginal cost would consistently lose money. 
Average cost must be covered, including managerial 
and other expenses, or business cannot be continued. 

A distinction has sometimes been made,’ however, 
in the discussion of the advantages of large-scale pro- 
duction, between so-called internal and so-called ex- 
ternal economies. Where the economies of large-scale 
production are external, there is no resulting advan- 
tage in large-scale production in a single plant or 
under a single management. ‘There is merely an ad- 
vantage in large-scale production within a given area. 
Thus, the extensive development of an industry in a 
given city may lead to the near-by development of 
auxiliary industries, the establishment of trade schools - 
from which better-trained workers can be secured than 
would otherwise be available, etc. It may mean larger 
use of electric power purchased from a regulated pub- 
lic-service power-supplying company and consequent 
lower rates for such power. Here, of course, the ad- 
vantage of larger output by many companies in (say) 
manufacturing is due to an economy in the production 
of power consequent on large power production by a 
single plant. But there is not, on that account, any 
advantage of or tendency towards monopoly in the 


1See, especially, Marshall, Principles of Economics, sixth edi- 
tion, London (Macmillan), 1910, pp. 266-285. 


TAXES ON COMPETITIVELY MADE GOODS 89 


manufacturing industry—or industries—using such 
power. ‘The price per unit of the power—granted a 
prohibition of discrimination among competing users 
—is lower to all users because it can be supplied more 
cheaply when much is wanted, whether the power is 
wanted by a single manufacturer or by several. Un- 
der such circumstances a tax on the manufactured 
article might, by diminishing demand and so reducing 
output, cause less use of the power and so necessitate 
a higher price per unit of power. Hence, if many 
of the producers were marginal, price may have to 
rise by more than the tax in order that the demand 
for the manufactured article may be met. The rise 
in price may approximate the tax plus the increased 
cost per unit of manufacturing the taxed article in 
smaller quantities. And a similar conclusion is to 
be arrived at if the external economies in question 
are of any sort whatever, so long as there are such 
economies. 

But if external economies from large-scale produc- 
tion do not tend towards monopoly, internal economies 
from large-scale operation may not. Whether the en- 
joyment of internal economies from large-scale pro- 
duction will tend towards monopoly depends upon » 
whether these internal advantages continue up to the 


point where one concern is large enough to fill the ~_ 


entire demand for the product. In an industry such 


90 THE ECONOMICS OF TAXATION 


that the internal advantages of large-scale operation 
cease before any one concern is large enough to fill 
the entire demand, we may expect to have, not one 
concern but a number of concerns. ‘To repeat, one 
concern or plant of the size of maximum efficiency can- 
not provide all the goods desired; increased size of 
that concern or plant is no advantage and may be a 
disadvantage; hence, we have several such plants. 


... ‘This means, in the large, production under conditions 


of constant or even increasing cost, conditions which 
we have already considered, rather than under con- 
ditions of diminishing cost. It is true that any one 
concern can produce, perhaps, 10,000 units a day ata 
much lower cost than 1o units a day. But if 10,000 
units is the normal output of a plant of maximum 


efficiency size, then what competition will compel the 


public to pay is a price that will yield normal re- 
turns on the investment in such a plant. What the 


cost of production on a much smaller scale would be 


may have no significance at all as an influence on 
price. If the required output is 70,000 units a day, 
then there must be in the industry, presumably, some 
seven plants, each producing about 10,000 a day.’ 
The average cost is then likely to be as great if 70,000 


1There is not the least intention to claim that, in real life, all 
plants have the same capacity. But there are normally limits 
above and below which production is likely not to be profitable. 


TAXES ON COMPETITIVELY MADE GOODS  g1 


or more units are wanted per day as if the demand 
is for only 10,000. Cost per unit does not decrease. 
Reckoning by the 10,000 units cost remains constant 
as production increases and may even increase. 

In case cost of production increases with increasing 
output, average cost and marginal cost cease to be 
equivalent and marginal cost must be met in order 
that output shall be kept up. Even although each 
of seven plants is as efficient as each other, the mar- 
ginal cost when 70,000 of the goods are produced may 
be greater than when only 10,000 or 20,000 are pro- 
duced. For more labor and more land—as well as 
more capital—must be drawn from other lines, and 
enough must be paid to draw into the given line not 
only the labor and land readiest so to move but also 
some which can do better elsewhere unless returns 
in the given line are high. If seven plants are re- 
quired instead of (say) two, the cost of production 
as ordinarily reckoned by accountants may be larger 
even in those two. For the higher wages and rent 
which the extension of production requires to draw 
in the labor and land needed in the other five plants, 
will be likely to compel the first two, also, to pay 
higher wages and rent lest the others outbid them for 
men and space.* 


11Tf the concern owns the real estate used, the logical thing will 
be to reckon the constructive rent at a higher figure. 
» aang a) 


PS on 2 ; : *% ; 
e 


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~ 4 fox A, : ! 2 * 
i iif ~ | ie N A iA A 47, } 
1 teh 4 PAN 
: * F fe he 


a 


oon 


92 THE ECONOMICS OF TAXATION 


If, then, several concerns can as effectively or more 
effectively supply a market than one gigantic concern, 
we have the conditions of constant or increasing cost.* 
If, however, on the other hand, there is progressive 
advantage in increased scale of operation by one con- 
cern to or beyond the point where the entire market 
can be supplied by it, there is a practically irresistible 
trend toward monopoly. Each concern by increasing 
its business can afford to sell at a lower price; each 
concern may offer a lower price as a means to that 
increase of business which will make the lower pricc 
profitable. Any concern which does not lower its 
price will lose business and will find, in consequence 


of such smaller business, that even the old and higher 


price is no longer profitable. To raise the price is 


suicidal. To lower it may possibly accomplish the 
elimination of rivals. Hence, in the absence of agree- 
ment, there will probably be cut-throat competition 
ending in monopoly. | 


It would seem, then, only doubtfully worth while 
to discuss the incidence of a tax on the output of a 


competitive industry operated under conditions of de- 


1 Seligman obviously has an entirely different concept of “con- — 


stant cost.” Otherwise he could not say (The Shifting and Inci- 
dence of Taxation, fourth edition, p. 236): “Whenever all the 


articles in a given class are produced at the same cost, in fact, the — 
resulting profits are monopoly profits and not competitive profits. — 
Not only does profitable production at the same cost imply monop- | 


oly, but monopoly necessarily means production at identical cost.” 


giaeeert ss. 


TAXES ON COMPETITIVELY MADE GOODS _ 93 


creasing cost. A tax on goods produced by such an 
industry—assuming for the moment several plants 
not combined and no one of which had yet driven 
its rivals from the field—would, of course, if it raised 
the price at all, diminish demand. If this caused the 
elimination of (say) one of the rival concerns, and 
if all of the other concerns had been almost marginal, 
these others would have to charge more than before 
by substantially the amount of the tax, in order to 
make the business worth while. Conceivably one (or 
more) of such concerns might pay the tax without 
raising the price in the hope of driving out its rivals 
and extending its business; but this is simply to say 
that one (or more) of the concerns might, in effect, 
reduce the price for that purpose, and such action 
would perhaps be as likely before the tax as after. 
If the tax merely drives out one or more of several 
concerns most or all of which are substantially mar- 
ginal and the others have to raise the price by the 
amount of the tax in order to remain in business, we 
have practically the conditions of constant cost. The 
difference is that now we are dealing with a temporary 
condition of unstable equilibrium tending rapidly to- 
ward monopoly. Only during a transition period 
when several concerns are still necessary and before 
the processes tending toward monopoly have time to 
work themselves out, can we assert that the tax is 


94 THE ECONOMICS OF TAXATION 


shifted in entirety to the consumers. After that the 
conditions of monopoly apply, shortly to be discussed. 

Suppose, however, that the effect of the tax, when 
it decreases demand, is not to eliminate any com- 
petitor, for some time, but to reduce the sales and 
output of each, forcing each one to produce on a 
smaller scale than before. Then it may be asserted 
that each must charge more, first to cover the tax and, 
second, to cover the increased unit cost of the smaller 
output, and that the public must pay more or some 
of the concerns will be eliminated. But if some of 
the concerns are eliminated the others can produce 
on the old scale and at the old unit cost and the price 
need not be higher than before by more than the tax. 
And if all but one are finally eliminated, we have 
the conditions of monopoly without which, in the type 
of industry in question, no stable equilibrium will be 
reached anyhow and after which price will be de- 
termined on different principles. We shall turn, in 
our next chapter, to an analysis of the incidence of 
taxes on monopoly output and on monopoly profits. 


S11 
Another Effect of Commodity Taxation 


Before concluding this chapter we ought to notice 
an effect of the taxation of any given commodity 


TAXES ON COMPETITIVELY MADE GOODS 95 


which is in addition to the shifting of such taxation. 
Not only do taxes on specific commodities result in 
higher prices of those commodities for consumers who 
‘continue to buy them, but also they cause some who 
would buy were there no tax, to forego purchasing, 
and they cause some who would buy much were there 
no tax, to buy little. Those who, thus, are, bya tax, 
kept_from purchasing what they need or desire and 
are so induced to purchase instead other goods which 
less satisfactorily meet their requirements, may prop- 
erly be_ regarded as. losing something. They are not 
as. well off in utilities as they might be. ‘But in so 
far as they are prevented from purchasing, they pay 
no tax. What they lose the government does not gain. 
Here, “so. far as the community as a whole is con- 
cerned, there is a net loss of utilities. Yet if, ‘the 
tax is levied on commodities the consumption of which 
is injurious, the net effect may be beneficial. 


§ 12 


Summary 


The principal conclusions of this chapter can be 
briefly stated. Where goods are produced under con- 
ditions of constant cost per unit whether production 
be large or small, a tax on these goods will be shifted 
entirely upon consumers; and accordingly as condi- 


ns nel . 


96 THE ECONOMICS OF TAXATION 


tions of constant cost are closely approximated, nearly 
all of the tax will be so shifted. If, however, the 
taxed goods are produced under conditions of increas- 
ing cost, the burden of the tax will not be shifted ” 
entirely upon consumers; part of the burden will re- 

main upon those who do the work, provide the capital 

or own the land applied to producing the taxed goods 

or upon two or all three of these classes. Consumers 

will be likely to find the price somewhat higher be- 

cause of the tax and, where demand is absolutely or 

almost absolutely inelastic, higher by the full amount 

or nearly the full amount of the tax. On the other 

hand, in proportion as demand is elastic, more of the 

burden rests upon the factors—land, labor and cap 

ital—on the producing side of the market. {So far as 

a tax on any goods causes people to forego consump-' 

tion of those goods to avoid the tax, there is an in- 
jury to consumers uncompensated by any gain to gov- 

ernment, But if the goods foregone are harmful, { 
there is a net benefit. When cost diminishes per unit 

as size of establishment increases, and this tendency 

continues to apply up to the point where all thé busi- 

ness is done by a single concern, competition is a con- 

dition of unstable equilibrium. Monopoly is practi- 

cally inevitable. But the laws of tax incidence under 

monopoly are not the same as under competition, and 

require separate consideration. 


CHAPTER IV 


TAXES ON COMMODITIES MONOPOLISTICALLY 
PRODUCED 


Si 
The Extreme Possibilities of Incidence in the Case 


One of the most interesting—but perhaps, also, one 
of the most intricate—parts of the theory of incidence 
is the part which deals with the taxation of goods 
produced by monopoly. Such taxation may, accord- 
ing as the conditions of demand vary in one way 
or another, cause the price to rise not at all, cause it 
to rise less than the tax, or cause it to rise by as 
much as or even more than the tax. To illustrate the 
first case, suppose the demand for a certain kind of 
goods produced by a monopoly to be inelastic up to 
a given price, and beyond that price to be extremely 
elastic. Then any appreciable rise above the given 
price would practically destroy the demand. In the 
absence of a tax the monopoly producing the article 
might easily find the price yielding the highest net 
return to be the highest that could be charged with- 
out overtopping this very elastic demand and in con- 

97 


98 THE ECONOMICS OF TAXATION 


sequence greatly curtailing sales. A tax levied on 
output might, therefore, not raise the price at all. The 
monopoly might find that it could better afford to 
pay the tax on, each unit of commodity sold and dis- 
pose of the former number of units per week or per 
month than to raise the price so as to cover the tax 
or any considerable part of it, and, as a result, lose 
nearly all of its business. 

Let it be noted that whenever, in this chapter, 
net monopoly profits are referred to, the reference 
is to an excess yield above the normal competitive 
return on a fair value of the plant. Since the ordi- 
nary interest return could have been enjoyed on this 
capital if otherwise used, it may be reckoned as part 
of the reasonable cost of doing the business. Monop- 
oly profits are returns in excess of such interest. 

But the same monopoly which, under one set of 
demand conditions, would not at all raise its price, 
might, if the conditions of demand were widely dif- 
ferent, raise its price by the entire tax or even more 
than the tax. Thus, suppose that, above the price 
which yielded, before the tax was levied, the highest 
net return, the demand becomes more and more in- 
elastic, as might happen if the rise of price eliminated 
buyers of a certain class while the buyers of another 
class would continue to buy even in the face of a 
still further and larger rise of price. In the absence 


MONOPOLISTICALLY MADE GOODS—TAXES 99 


of the tax the price of highest net return might be 
low enough to catch some of the elastic demand. 
The net monopoly profits per sale might be great 
enough, even at a low price, to make that price profit- 
able if sales were much greater than at a higher price. 
But after the tax is levied the net profits per sale at 
the old price may not be large enough to justify 
maintaining that price even with the large sale which 
may be so assured. While it does not pay to cut sales 
in half in order to increase net profits per sale from 
4 cents to 6 cents, it does pay to cut sales in half, 
after a tax has been levied of 3 cents per sale, in 
order to increase net profits per sale from 1 cent to 
3 cents. And when price has been so increased by 
2 cents a unit it may be that still further increase 
will not for some time seriously diminish demand. 
For the demand at still higher prices may be almost 
as great, i.e., demand may be, through a considerable 
range of prices, inelastic. It may well happen, then, © 
that the price of highest net return will be higher than 
the old price by a great deal more than the tax. 
Perhaps the distinction between our two cases 
(where none of the tax is shifted and where price 
rises by more than the tax) will be clearer if we 
illustrate them by hypothetical tables. In the illus- 
trations we shall assume conditions of constant cost, 
Le., that whatever the output the cost per unit does 


100 THE ECONOMICS OF TAXATION 


not change. We will suppose first, then, respecting 
the sales, cost per unit, net profits per unit, etc., of a 
given monopoly, the following figures: 


Expense Profit 


Price Sales persale persale Profits 
$15 O — — $ 00 
14 IO $8 $6 60 
D3 100 8 5 500 
12. 200 8 4 800 
at 260 8 3 780 
ide) 330 8 2 660 

9 410 8 I AIO 

8 500 8 O 000 


The price of highest net return is here $12. Suppose, 
now, a tax, on each article produced and sold, of $1. 
This would reduce by $1 the profit per sale at each. 
price. The profits on all sales would then be at each 
price as follows: 


Price Profits 
$15 : $ 00 
14 50 
13 400 
12 600 
II 520 
Ke) 330 
9 000 


8 —500 


MONOPOLISTICALLY MADE GOODS—TAXES tor 


The price of highest net return is still $12.1. The tax 
has not caused any rise in the price because the de- 
mand, for price increases above $12, is so elastic. 
Consider now a case similar to this in all respects 
except that the demand, instead of becoming elastic 
as the price rises above $12, is less sensitive to price 

increases above that point. 


Expense Profit 


Price Sales per sale persale Profits 
$15 100 8 7 700 
14 130 8 6 780 
13 158 8 5 790 
12 200 8 4 800 
II 260 8 3 780 
ste) 330 8 2 660 
9 410 8 I 410 
8 500 8 fo) 000 


The price of highest net return is still $12 as in the 
case just previously considered. But the effect of a 
$z tax on each unit of output is to make the price 
rise to $14. For the profit per sale is $1 less, at 
each price, with the tax than without it, and therefore 
the total profits at each price would be as follows: 


1In our illustration, no attempt has been made to consider inter- 
mediate or fractional prices. But it would be entirely possible to 
conceive of a case where no rise of price, even fractional, would 
take place because of the assumed tax. 


102 THE ECONOMICS OF TAXATION 


Price Profits 
$15 $600 
14 650 
13 632 
12 600 
II 320 
10 330 
9 000 

8 —500 


The price of highest net return is now $14. A tax 
of $x per unit output would, under the conditions of 
our illustration, cause a price rise of $2. 

It appears, therefore, that, according to the condi- 
tions of demand, a tax on monopolistically produced 
goods may result in no price rise at all or in a price 
rise which may even be greater than the tax.) — i 


§ 2 


When a Tax on Monobolistically Produced Goods 
Causes a Price Rise of Just Half the Tax 


But while the possibilities of price change due to 
a tax on a monopolistically produced article, are, ac- 
cording as demand becomes relatively more or less 
elastic beyond a certain price, thus extreme, there is 


1 See Marshall, Principles of Economics, sixth edition, London 
(Macmillan), 1910, pp. 481, 482. 


MONOPOLISTICALLY MADE GOODS—TAXES 103 


an intermediate case which is comparatively simple. 
If we suppose a demand which is perfectly regular, 
i.e., which increases in arithmetic ratio as price falls; 
if the monopoly produces under conditions of con- 
stant cost; and if we assume the monopoly concern 
to act intelligently on these facts, then we shall find 
that a tax on output will bring a rise of price per 
unit of just half the tax. Consider by way of illus- 
tration the following possible case: 


Expense Profit 


Price Sales per sale persale Profits 
$20 fe) — ~~ 240 
19 20 $8 SII 220 
HaES 40 8 10 400 
17 60 8 9 540 
16 80 8 8 640 
15 100 8 7 700 

14 120 8 6 720” 
3 140 8 5 700 
12 160 8 4 640 
II 180 8 3 540 
10 200 8 2 400 
9 220 8 I 220 
8 240 8 fe) 000 


Here the demand increases by just 20 with each re- 
duction of $1 in price. The price of highest net re- 
turn is $14. But if a tax is levied of (say) $8 on 
each unit of output, the price of highest return will 


104 THE ECONOMICS OF TAXATION 


be $18. The expense per unit will be $16 (counting 
the tax of $8) instead of $8. Therefore the profit 
per unit will be $8 less at each price than if the 
tax were not levied. And the total profits at each 
price will be: 


Price Profits 
$20 $ 00 
19 60 
18 80 
17 60 
16 fele) 
15 —1I00 
14 —240 
13 —420 
12 —640 
II —9goo 
10 —1200 
9 —1540 

8 —1920 


The profits will be seen to be largest at the price of 
$18, which is $4 higher than before, i.e., higher than 
before by half the amount of the tax. The reader 
can, if in doubt regarding the soundness of the gen- 
eral conclusion, try other figures for prices, sales and 
expense. Provided the expense per unit is constant 
and provided the demand changes by the same amount 
for each unit change in price, the price of highest 
net return after the tax will prove to be higher than 


MONOPOLISTICALLY MADE GOODS—TAXES 105 


the price of highest return before by just half the 


tax. The figures for demand may indicate greater 


1The conclusion we have just reached will perhaps be more 
convincingly demonstrated to some if we present the argument 
graphically. Using the upper right hand quadrant as is customary 
in drawing demand and supply curves, measuring price per unit 
upward from the base line, OX, and amount to the right from 
the line OY, we construct a demand line, DD’, and a cost line 
CC’ (see figure 4). 





FIGURE 4. 


The DD’ represents a demand. which changes by equal amounts 
with each unit change in price. For every unit drop in the vertical 
distance from OX there is a fixed increase in the distance from 
OY, hence the line is straight. The cost per unit is measured by 
the vertical distance from OX to CC’. The fact that the line CC’ 
is parallel to the base line OX indicates that the cost per unit is 
considered to be constant regardless of whether the number of 
units produced is a thousand or a million. Under competition 
price would be fixed where the demand line intersected the cost 


106 THE ECONOMICS OF TAXATION 


or less elasticity, without changing this result. Only 
if the demand is not regular will the result be differ- 
ent. Thus, if, with demand as above represented for 


line (the latter being then the same as the supply line). But a 
monopoly, controlling supply, fixes price where the net profits are 
the largest. This is where the total sales multiplied by the net 
profit per sale make the greatest product. Graphically expressed, 
it is where the rectangle constructed within the triangle CED is 
the largest. But it is a well-known conclusion of geometry that 
the largest rectangle which can be thus constructed in a right- 
angled triangle is one formed by drawing the perpendicular bi- 
sectors of the two legs of the triangle to their point of intersec- 
tion, or—for this comes to the same thing—bisecting all three 
sides of the triangle and drawing a line from the middle of each 
leg to the middle of the hypothenuse. This conclusion can be suf- 
ficiently established for right-angled triangles of various specific 
proportions by any reader who cares to take the trouble, without 
the use of mathematical formule. Thus, suppose the distance CD 
to be 10 and the distance CE to be 20. If these distances are 
bisected, the rectangle CFHG will be 5x10 and will have an area 
of 50. This is the largest rectangle which can be constructed 
within the triangle CED. Thus, if we try to construct a longer 
rectangle, having 12 for one side instead of 10, this will necessarily 
shorten the other side from 5 to 4. But the product of 12 and 4 
is 48, which is less than 50. Likewise, if we try to construct a 
wider rectangle, lengthening the shorter side from 5 to 6, this will 
necessarily reduce the longer side from 10 to 8, making a product 
of 48, which is not so much as 50. Whether, in the triangle CED, 
the side CD is shorter than, equal to or longer than CE, the largest 
rectangle will in every case be the one obtained by connecting the 
middle points of the three sides as above indicated. 

Let us see, now, whether, in this case, one-half the tax will be 
added to the price. Letting the tax per unit output be represented 
by the distance CT, the new unit cost will be the former cost 
plus the tax, or OT. The new line of constant cost, including, 
now, the tax, will be TT’. The rectangle representing largest net 
return must now be constructed within the lines OY, DD’ and 
TT’. This rectangle is TIKJ. Since the distance TI was ob- 


MONOPOLISTICALLY MADE GOODS—TAXES 107 


each price up to $14, it should suddenly become much 
more elastic above $14 so that, at any higher price, 
the demand was zero or nearly zero, the tax would, 


tained by bisecting TD and the distance CF by bisecting CD, the 
distance FI will be half of the distance CT. In words, the new 
price is higher than the old by just half of the tax. Expressing 
the matter in figures, let us suppose the cost per unit, OC, to be 
4, and the distance CD to be 12. Then the price of highest net 
return, OF, will be 10 (CF being half of CD). If a tax is im- 
posed of 4 per unit, CT, the distance OT is 8. The line TD 
is also 8 and half of it, TI, is 4. Then the price after the tax, OI, 
is 12, which is more by 2 than before the tax of 4 was imposed. 

Let it be noted—whoever will can make the test—that our con- 
clusion follows with equal certainty whether demand is very 
elastic (the demand line being then nearly horizontal) or very 
inelastic (the demand line being nearly vertical). It is essential 
only that demand should be regular—should change by a constant 
amount with each unit change in price—, that the demand curve 
should be a straight line. If the demand line, beginning at its 
intersection with the cost line, rises almost vertically and inter- 
sects the OY line at a much higher point, the price of highest 
return will be much higher to begin with; but it will still be true 
that the price will tend to rise, after the tax, by one-half of the 
tax. It is incorrect to say, therefore, as does at least one writer 
(HH. C. Adams, Finance, New York—Holt—, 1899, p. 395) that 
such a tax will gravitate towards the producer or the consumer 
“according as the demand for the commodity in question is an 
elastic or an inelastic demand.” ‘The elasticity or inelasticity of 
demand, as such, has nothing to do with the matter. But whether 
demand becomes, when price rises beyond a certain point, more 
elastic or less so, may have considerable significance. If, for 
instance, the demand curve bends sharply enough to the left, at H 
(see figure), it is obvious that a tax on output will not cause the 
monopoly to raise its price by half the tax, or, perhaps, at all, 
because such a price rise will so sharply decrease sales. If, on 
the other hand, the demand line after passing to the left of and 
above H, turns upward (but not enough to make the price of 
highest return in the absence of a tax higher than in the case of 


108 THE ECONOMICS OF TAXATION 


as indicated in the previous section, cause no rise 
of price at all. And if, above the price of $14, de- 
mand should become more inelastic—but not suffi- 
ciently so to make the price higher to begin with— 
the tax might cause a rise of price by more than half 
or, even, by more than the entire tax. 


§ 3 


Monopoly and Increasing Cost 


Industries of so-called diminishing cost may be, as 
economists have often asserted, the ones which must 
inevitably and perhaps desirably, tend towards mo- 
nopoly; but monopoly may be established, through 
control of sources of production or otherwise, in in- 
dustries of entirely different character, e.g., in in- 
dustries of constant or even of increasing cost. One 
case would be that of a monopoly producing coal 
or iron ore from mines varying in richness. The cost 
per ton would be low from the good mines and high 
from the poor ones. A given amount of labor and 
equipment will produce more tons from the better 


the original demand line), i., if demand becomes more inelastic 
with price rises beyond OF, then the price is likely to rise more 
because of the tax than if the elasticity of demand is constant. 
And it may, as was shown in an earlier section (Sec. 1, of this 
Chapter), rise by more than the tax. 

1§ 1 of this chapter. 


MONOPOLISTICALLY MADE GOODS—TAXES 109 


mines than from the poorer ones. If but a limited 
number of tons is to be sold, the better mines only 
will be worked and the cost per ton will be low; if 
more is to be sold, the poorer mines may have to be 
worked and the cost per ton of the additional output 
will be high. If the price per ton is high enough 
so that there is a net monopoly profit even on the 
coal produced from these poorer mines, then there 
will be an additional surplus—a rent—from the better 
mines. Likewise, if the better mines, though worked 
somewhat intensively, nevertheless yield a monopoly 
profit—a return in excess of the ordinary competitive 
interest on capital and remuneration for marginal ef- 
fort—on the marginal tons produced from them, these 
mines clearly yield an additional profit or rental sur- 
plus on the non-marginal tons.* 


1A somewhat similar situation might conceivably exist if the 
monopoly, for every increase of its business, had to pay a pro- 
gressively higher rate of wages so as to draw from other lines 
employees progressively more difficult to get. Such a condition, 
like the necessity of resorting to poorer mines, would mean that 
for every unit increase of business, the additional cost would be 
higher. If the price of the goods yielded a monopoly profit— 
something in excess of cost—on the marginal units, the same price 
would certainly yield a greater return on the non-marginal units. 
Such an excess or surplus return over cost is not entirely analogous 
to land rent, since it is not a yield of land or other physical 
property. It is, indeed, itself a special part of the yield of 
monopoly, although the reader should, for the purposes of our 
discussion of incidence, regard it as included in rent. Such a yield 
could not be received—at least in any corresponding degree—by 
managers of a competitive industry, for in a competitive industry 


110 THE ECONOMICS OF TAXATION 


$4 


The Incidence of a Tax on the Output of a Monopoly 
Operating under Conditions of Increasing Cost 


In order to compare the effect of a tax on monopoly 
output under conditions of increasing cost with the 


no one concern would probably hire enough employees so that the 
wages per employee for the work done would be appreciably 
different than if fewer were employed. And, indeed, such a dif- 
ference would perhaps be unlikely enough even in the case of a 
monopoly. If there were no such difference, this peculiar, rent-like 
element in the profits of a monopoly would be absent. 

So far as it might be true that successive increments of labor 
hired by a monopoly involve increasing cost per unit of labor, the 
same thing might be true of successive units of (say) land rented. 
But the surplus received over rent paid on part of the land is not 
land rent as such. To illustrate, suppose pieces of land A, B, C, 
D, E, and F of equal utility. Suppose, also, that by the use of 
each additional tract the monopoly can add $1,000 to its output. 
It can lease land A for $300 and after paying $200 in wages and 
interest, secure a net return from the use of this land, of ‘$500. 
But the other pieces of land have such alternative uses that they 
cannot be obtained for a $300 rent. Thus, to get the use of 
land B may require a rent of $400. Then if the monopoly hires 
A for $300, taking advantage of the fact that it has a monopoly 
in its business and that land A cannot be used for other purposes, 
while it pays a rent of $400 for B and pays or allows $200 for 
labor and interest on equipment and improvement employed and 
used on each tract, its net return from botk will be $900, i.e., $500 
from A and $400 from B. From C the net return may be still 
smaller, and so on. If a monopoly profit is made on F, an extra 
return is made on A, B, C, D, and E, which is really the rent that 
the owners of these tracts would receive if the business for which 
they could be best used was a competitive one and if, therefore, 
bidding for the land gave A, B, C, etc., the same rent as F. A 
monopoly, supposing it to lease the premises it uses, might thus 


MONOPOLISTICALLY MADE GOODS—TAXES 111 


effect of the same tax under conditions of constant 
cost,* we shall assume two cases alike in all respects 
except that in one production is under increasing and 
in the other under constant cost. In both, production 
is by a monopoly; in both, the conditions of demand 


keep for itself rent which would otherwise go to some of these 
owners. And, in a similar way, it might keep for itself wages 
which, under competitive conditions, would go to some of its 
employees (those who would do this work at low wages rather 
than do any other kind of work). 

But even if the owners of land A, B, C, D, etc., were able to 
get the rent which the monopoly has to pay to F, we would still 
have a case of increasing cost. If, although able to hire tract A 
alone for $300 rent, the monopoly has to pay $400 each for tract A 
and B in case it needs both, then to hire B costs it $400 plus an 
extra $100 to A, or $500. This makes a cost (including wages and 
interest, $200) of $700 for the $1,000 additional output. Likewise 
if to lease C at $500 will add another $100 to the rent required 
for A and B, then the cost of the $1,000 produced on C is $700 
plus $200 (wages and interest) and the monopoly profit only $100. 
We can, then, assuming only tracts A, B, and € to be used, regard 
$900 as the marginal cost, $700 as the cost ot the $1,000 worth of 
product which would be marginal if only A and B were used, and 
$500 as the cost of the $1,000 worth of goods produced on A. 
The net monopoly return is, therefore, $100 plus $300 plus $500. 
Of this, $300 ($100 on each $1,000) is monopoly profit proper, and 
$600 is an additional rent-like income, though not rent in the 
strict sense. 

Similarly, let us now suppose that a monopoly, by doing a large 
business, finds itself paying somewhat more each to nearly all of 


1For a mathematical study of the comparative incidence of 
taxes on goods produced by a monopoly under conditions of con- 
stant, increasing and decreasing cost, see article by F. Y. Edge- 
worth, entitled “Professor Seligman on the Mathematical Method 
in Political Economy,” in the Economic Journal, Vol. IX, 1899, 
pp. 286-315, especially pp. 293-208. 


112 THE ECONOMICS OF TAXATION 


are the same; in both, the number of units of output 
is the same; in both, the marginal costs of production 
are the same. But in one case this marginal cost is 
a constant cost and in the other the cost is less if 
fewer units are produced and greater if more are pro- 
duced. In illustrating these cases with hypothetical 
figures, we can approach the problem most simply 
by supposing demand to vary by equal amounts with 
equal price changes. For we have already seen* that 
with such a regularly varying demand and producing 


its employees—in order to get the marginal ones into its field— 
than it would have to pay for fewer. The cost of an extra 
$1,000 worth of product would then have to include not only the 
wages of the extra labor needed to produce it but also the addi- 
tional wages paid to labor which, if less labor were wanted, 
would be got at a lower rate of pay. If, therefore, the last $1,000 
worth of goods produced pays a monopoly profit, there would be 
an additional surplus, analogous to rent, on the rest. 

If the monopolist could tell what land and what labor might 
be obtained at lower rates than the rates necessary to secure the 
land and labor having relatively the best alternative opportunities, 
then individual bargaining would prove most profitable in dealing 
with both landowners and laborers. In that case the monopolist, 
by virtue of being a monopolist, would gain at the expense of both 
landowners and laborers. But if the monopolist does not know 
which laborers (or which land) are marginal in the work and 
which are not, and, to do a large business and secure the incident 
large force of employees, has to offer, more or less publicly, a 
higher rate of pay than if smaller business were done, then no 
such gain is securable and the cost of the marginal unit of output 
must be regarded as including the additional wages (and rent) 
paid to the employees (and landowners) that would be hired even 
if output were smaller. But in either case we have conditions of 
increasing cost. 


1§ 2 of this Chapter (IV). 


MONOPOLISTICALLY MADE GOODS—TAXES 113 


under conditions of constant cost, a monopoly tends 
to raise the price of its taxed goods by half the amount 
of the tax. If, therefore, we find that, in the case 
of increasing cost, a monopoly tends to raise its price 
by less than half the tax, we can conclude with cer- 
tainty that, given a regularly varying demand, a tax 
on monopoly output will tend to a less rise of price 
when goods are produced under increasing cost than 
when they are produced under constant cost. And 
we can be fairly certain even without making a test 
—which, however, can be easily made—that the same 
conclusion applies where demand varies irregularly. 
Let us first repeat from an earlier section * the follow- 
ing table representing conditions of constant cost: 


Expense Profit 


Price Sales persale persale Profits 
$20 fo) —- —- pe, 
19 20 $8 SII 220 
18 40 8 IO 400 
17 60 8 9 540 
16 80 8 8 640 
15 100 8 7 700 
14, 120 8 6 720 
13 140 8 5 700 
12 160 8 4 640 
II 180 8 3 540 
0) 200 8 2 400 
9 220 8 I 220 

8 240 8 fe) fe) 


1§ 2 of this Chapter (IV), 


114 THE ECONOMICS OF TAXATION 


The price of highest net return is $14 and, as we 
know, a tax on output will cause a rise of price amount- 
ing to half the tax. If we now consider a case of 
increasing cost where demand is just the same at 
each price and where at the price of $14 (at which, 
with a constant cost of $8, the yield is the highest) 
the marginal cost is $8, then we shall find that in the 
absence of a tax, the price of highest return is the 
same, $14, but that a tax on output causes a price rise 
of less than half the tax. Following are figures for 
such a case: 
Expense Average 


per sale Expense Profit 
Price Sales (at margin) per sale per sale Profits 


$20 Oo a — — $ o 
19 20 $3 $3 $16 320 
18 40 4 avs 14.5 580 
17 60 5 4 13 780 
16 80 6 4.5 T1i8 920 
15 100 7 5 10 1000 
14 120 8 5-5 §.5'4 59026 

“33 140 9 6 7 980 
12 160 IO 6.5 5-5 880 
II 180 II 7 4 720 
IO 200 12 ie 2.8 L500 

9 220 13 8 I 220 
8 240 14 8.5 0.5 120 


Let us now see whether, as in our case of constant 


MONOPOLISTICALLY MADE GOODS—TAXES 115 


cost, a tax of $8 per unit of output or per sale, will 
cause the price of highest net return to be just $4 
higher, or whether price will rise less than this. A tax 
per unit of $8 would mean a subtraction from the 
profits, at each possible price, of $8 multiplied by the 
number of sales at that price. The net figures would 
then be: 


Expense Average Average 
per sale Expense Profit 
Price Sales (at margin) persale per sale Profits 


$20 fe) — — —- gies) 
19 20 $II SII $8 160 
18 40 12 11.5 6.5 260 
17 60 13 12 5 300 
16 80 14 12.5 3.5 280 
15 100 15 13 2 200 
14 120 16 13.5 0.5 60 
12 140 17 14 —I — 140 
12 160 18 14.5  —2.5 — 400 
II 180 19 15 —4 — 720 
IO 200 20 15.5  —5.5 —II00 

9 220 21 16 —7  —I540 

8 240 22 16.5 —8.5 —-2040 


The price of highest return is now $17. (No frac- 
tional prices are included in our table. Seventeen dol- 
lars is the price in even dollars giving the highest 
return.) The tax has brought it about that the price 


116 THE ECONOMICS OF TAXATION 


of highest net return is higher than before but higher 
by less than half of the tax.* 
To express, now, the whole matter in words, we may 


1The fact that a tax on output tends to make a monopoly raise 
its price less if it is operated under increasing cost can be shown 
diagrammatically. In the chart below (figure 5), DD’ is the de- 
mand line, CC’ is the line of constant cost and MN is the line of 
increasing cost, 


a6 





FIGURE 5. 


The point on MN where the vertical line should be erected to 
construct the area of largest monopoly profits in the case of 
increasing cost is that point on MN through which runs a hypo- 
thetical line of constant cost (a line parallel to the base), which 
line is bisected (between OY and DD’) by the line MN at the 
point of intersection. To find this point and construct the line 
CC’, extend line DD’ to its intersection with the base, then bisect 
the base and draw a straight line from Y to the middle of the 
base, OX, through MN. 


aie 
a 


MONOPOLISTICALLY MADE GOODS—TAXES ea] 


say that, in the case of increasing cost, all the units 
of output except the marginal ones cost less and so 
yield more in the way of net returns. Hence, the 


The price of highest net return is OF and the area of largest 
monopoly profit is CFHG plus, in the case of increasing cost, the 
area CGM representing the extra rent or rent-like return on the 
non-marginal units. A tax of the height CT, making the cost 
per unit in the case of constant cost, OT, will raise the price, in 
that case, to OI. For while the gain from raising the price, in 
increased net returns per sale, is the same as it would be if the 
price were raised in the absence of a tax, the loss in net returns 
on the sales thus lost is not as great as if there were no tax, 
since with the decrease of sales goes always a decrease of tax. 
The gain from each increment rise of price exceeds the loss until 
the price has risen by half the amount of the tax. The gain 
from each increment price rise is the amount of rise in price 
times the sales at the new price and is measured by a rectangle 
above FH, the height of which is equal to the increment 
price rise. The loss is the former net returns per sale times 
the number of sales lost and is measured by a rectangle con- 
structed along and to the left of the line GH, the width of which 
is equal to the number of sales lost. It is or should be obvious 
that the gain from raising the price (the rectangle erected along 
and above FH) is the same in the case of increasing cost as it 
is in the case of constant cost. But the loss from so doing is 
greater in the case of increasing cost, since it includes, besides a 
rectangle to the left of the line GH, a triangle between the lines 
CG and MG. In other words, the monopoly which produces under 
conditions of increasing cost finds that a loss of sales involves a 
larger loss of net returns than in the case of a monopoly which 
produces under conditions of constant cost; for the cost of pro- 
duction to the monopoly producing under increasing cost—except 
the cost at the margin—is less and, therefore, at any given price 
the gain is greater. By raising its price such a monopoly cuts off 
some of this rent or rent-like gain between CG and MG, as well 
as the rectangle to the left of GH. Hence such a monopoly 
sooner reaches the point where a further increase of its price, 
because of the tax, is not worth while. 


118 THE ECONOMICS OF TAXATION 


gain from raising the price, when a tax is levied, is 
sooner offset by the loss from cutting off some of 
the former business. 


§ 5 


Production by a Monopoly under Conditions of 
Diminishing Cost. Incidence of Output 
Tax in Short Run 


Let us consider, now, the case of a tax on goods 
produced by a monopoly under conditions of dimin- 
ishing cost. In discussing production by a monopoly 
under conditions of diminishing cost, and the prob- 
able effect of a tax upon it in proportion to output, 
we need to have in mind a very definite notion of 
what we mean by cost. As in the case of increasing 
cost we shall have in mind not average cost per unit 
output but marginal cost. Thus, suppose a concern 
which may produce ten thousand, twenty thousand, 
thirty thousand, or forty thousand units of commodity. 
If 10,000 units are produced the cost is $5 per unit or 
$50,000. In case 20,000 units are produced, equip- 
ment can be more effectively utilized and the total cost 
of a doubled business may be $90,000 or an average 
cost of $4.50 per unit output. But the additional 
cost of the second 10,000 units is only $40,000 or an 
average of $4 per unit. The additional cost of a 


MONOPOLISTICALLY MADE GOODS—TAXES 119 


third 10,000 units—assuming the same plant and 
methods to be used—would probably be as great as 
for the second, viz., $4 per unit. For the upkeep of 
the plant and interest on the investment—if provided 
for by the first 10,000 units—is no more to be reck- 
oned as an additional expense of the second 10,000 
than of the third. Average cost: per unit might con- 
tinue to decline until the point of complete utiliza- 
tion of plant was reached, while yet marginal cost 
declined no further after the second 10,000 produced. 
Indeed, if one reckoned the interest on investment and 
the expense of upkeep of plant as imposed by the first 
unit of output, then there might be not only no de- 
creasing marginal cost after the second 10,000 but 
there might be not even decreasing marginal cost after 
the second individual unit of output. 

If with increasing: output the marginal unit cost 
does not decrease, then with decreasing output the | 
marginal unit cost would not increase. We would 
therefore have, so far as particular operating costs 
were concerned (as distinguished from so-called ‘‘over- 
head” costs—fixed and general costs), a monopoly op- 
erated under conditions of constant or nearly con- 
stant cost. This, as we shall shortly see, would not 
be the condition in the long run. But it would be 
the condition during the life of the monopoly’s plant, 
assuming the adequacy of this plant to turn out the 


120 THE ECONOMICS OF TAXATION 


goods demanded, at the price fixed.* In the long run, 
the cost of producing goods includes the ordinary rate 
of return on capital investment. But in the short run, 
when a plant adequate to supply a given article is 
already in existence, interest on investment is not a 
determining factor in fixing a price. The monopo- 
listic industry will endeavor, if untrammeled by reg- 
ulation or fear of regulation, to charge the most profit- 
able price. If there is a fixed “overhead” for interest 
on capital obtained through the sale of bonds or other- 
wise, the monopolistic industry will charge the same 
price of largest profit. Thus only can it have the 
largest amount left for dividends after paying the 
fixed charges—or the smallest deficit. If, perchance, 
it should fail to meet this interest and its creditors 
should foreclose and get possession of its plant, they 
also would charge the price yielding the highest net 
returns above costs of operation, and in doing so they 
would have no occasion to at all consider interest on 
investment. So, again, if there are certain general 
expenses of upkeep of the plant, expenses not de- 
pendent on the amount of business done—e.g., re- 
newal of railroad ties due to rotting from weather con- 
ditions, etc.—these expenses also would not be mat- 
ters for consideration in fixing a rate, charge or price. 

1 And assuming that the plant has no other profitable use and 


that 1t does not become worth while to sell it as junk rather than 
operate. 


MONOPOLISTICALLY MADE GOODS—TAXES tar 


The only qualification necessary to the foregoing state- 
ment is that in case the least unprofitable price possi- 
ble would not yield enough to cover such general ex- 
penses, and this were expected to be a continuing con- 
dition, then abandonment of the business and the 
plant would be preferable to continued operation. But 
the fact—should it be a fact—that the monopoly made 
less than enough to pay interest on its debt, though 
this would lead to bankruptcy, would not cause aban- 
donment of production. 

Suppose, now, the levy of a tax on the output of a 
monopoly operated under the above conditions. Since 
—except for the minor qualification above stated—- 
the managers of the monopoly would have reason to 
consider only fhe particular operating costs, i.e., the 
costs specifically imposed by each unit of business 
done, and since these costs are assumed to be con- 
stant or nearly so, the tax would cause just the same 
amount of price rise as if all costs except the par- 
ticular operating costs were non-existent. As a short- 
run proposition the price-fixing conditions are the 
same as if cost were constant or nearly so. Hence 
the incidence of a tax on output will tend to be the 
same. 

But if we are considering the long-run conditions 
of monopoly production, and the long-run effects of 
a tax on monopoly output, then we must allow for 


122 THE ECONOMICS OF TAXATION 


the wearing out or the obsolescence of machinery and 
plant and for the consequent necessity of constructing 
anew the necessary capital for producing the monopo- 
lized article or service. If, because of a tax on out- 
put, the price is to be higher, the sales are likely to 
be smaller. Then production will be on a smaller 
scale. If so, the most economical method of produc- 
tion is likely to be different than if production is on 
a large scale. Thus, if only one unit were to be pro- 
duced, a very different method of production would 
probably be employed, e.g., production would be “by 
hand” and the cost would not include interest on a 
tremendous investment. It is, perhaps, more reason- 
able to reckon a cost per unit of producing one, one 
thousand or ten thousand units on the assumption that 
the kind of plant and the method of production are 
the most economical for the volume of production 
aimed at. Even, therefore, although beyond (say) 
20,000 units there is no decrease of marginal cost with 
the existing plant and methods of production, mar- 
ginal cost may yet decrease if an increased output 
makes possible the adoption of more effective methods 
of production. Thus, if an output of 30,000 can be 
planned for, it may be possible so to plan equipment 
and methods as to make the total cost $120,000. If 
the cost of 10,000 units is $50,000 and of 20,000 is 
$90,000, then the additional cost of the last (the third) 


MONOPOLISTICALLY MADE GOODS—TAXES 123 


10,000 is $30,000 or $3 per unit. If less is produced 
the marginal cost is greater. If more is to be pro- 
duced the marginal cost may be less. 

Beyond some point or other it is probable that mar- 
ginal cost would cease to decline. But this point may 
not be reached except with a greater output than the 
circumstances make seem desirable to the monopolistic 
concern. When this point is reached—if it is reached 
—we have again the conditions of constant or of 
increasing cost, at least so far as the incidence of tax- 
ation is concerned. 


§ 6 


The Long-Run Incidence of a Tax on a Commodity 
Produced by a Monopoly under Conditions of 
Diminishing Cost 


We shall find that a tax on a commodity produced 
by a monopoly is more likely to cause a rise or will 
cause more of a rise in prices under conditions of 
decreasing than under conditions of constant or of in- 
creasing cost. To prove that a commodity tax is more 
likely to raise price or is likely to raise it farther under 
conditions of decreasing than under conditions of con- 
stant cost when production is by a monopoly, let us use 
illustrative figures as we did when comparing constant 
with increasing cost. Let us take demand, as in our il- 


124 THE ECONOMICS OF TAXATION 


lustrations for constant and increasing cost, to be per- 
fectly regular, i.e., to increase by a constant amount 
with every unit fall in price. Then the price of high- 
est net return before the tax will be the same as it 
would be under constant cost if this cost were the same 
as the marginal cost at the point where the price is 
fixed. Thus, in the following set of illustrative figures 
the price of highest net return is $14, at a marginal 
unit cost of $8, which is the same as the price fixed, 
under identical conditions of demand, at a constant 
cost of $8 per unit output: * 


Expense Average Average 
per sale Expense Profit 
Price Sales (at margin) per sale per sale Profits 


$20 fo) oa — — Th aett 
19 20 PIO.5 P10.5 $8.50 170 
18 40 10 10.25 7275 Sato 
17 60 9.5 10) ‘| 420 
16 80 9 9.75 6.25 500 
15 100 8.5 9.5 5-50 550 
4 120 8 9:25 4-75 570 
13 140 7-5 9 4 560 
12 160 7 8.75 KPT eae ie 
II 180 6.5 8.50 2.50 450 
IO 200 6 8.25 157.5); e300 
9 220 5-5 8 I 280 

8 240 5 7.75 0.25) eto 


1See Section 2 of this Chapter (IV). 


MONOPOLISTICALLY MADE GOODS—TAXES 125 


With like figures for demand at each price and with 
a constant cost of $8 per unit, we found that a tax 
of $8 per unit output made the price of highest net 
return higher by $4 or half the amount of the tax.* 
Under increasing cost we found that the price rose 
less.” Now, under decreasing cost, we shall find the 
price to rise more. Thus, with a tax of $8 per unit 
output, the figures for “profit per sale” will be less, 
in each case, by $8 and the figures in the column 
“profits” will be correspondingly affected: 


Price 


$20 

_I9. 
18 
17 
16 
T5 
14 
T3 
12 
II 
Io 


9 
8 


Expense Average Average 
per sale Expense Profit 
Sales (at margin) per sale per sale Profits 


fo) — os +. 0 
20 $18.50 $18.50 $0.50 10 
40 18 18.25  —0O.25 —IO 
60 17.50 18 —I —60 
80 17 17.75  —I.75 —I40 
100 16.50 17.50 —2.50 —250 
120 16 17.25 —3.25 —390 
140 BS 5Oy brah y —4 —360 
160 15 16.75 —4.75 —760 
180 14.50 16.50 —5.50 —9ggo 
200 14 16.25 —6.25 —1250 
220 13.50 16 —7 —I540 
240 13 15.75 —7-75 —1860 


1See Section 2 of this Chapter (IV). 
2See Section 4 of this Chapter (IV). 


126 THE ECONOMICS OF TAXATION 


This means that the profits are now highest at a price 
of $19.7. In other words, a tax of $8 per unit of out- 
put causes a price rise of over $4, or more than half 
the tax. It, therefore, causes a price rise more than 
an exactly equal tax causes under conditions of con- 
stant cost and precisely similar demand.” 


1 We are here considering price changes only of a dollar at a 
time and are not noticing possible profits at intermediate points. 

2 Consider now the case of decreasing cost with the use of 
diagram. As before, so in this figure (figure 6), DD’ is the 
demand line. The line CC’ represents constant cost. The line NM 


Y 





O x 
Ficure 6. 


will represent decreasing cost. Construct, as in figure 5, by run- 
ning straight line from Y through middle of base (between O and 
intersection of base with DD’). Where this line crosses NM, 
draw CC’ parallel to base. The price CF at which returns to the 
monopoly are largest (area CFHG) under constant cost, in the 
absence of a tax, is also the price at which returns are the largest 


MONOPOLISTICALLY MADE GOODS—TAXES 127 


Attention should again be called to the fact that 
the exact per cent. of price rise compared with tax— 
one-half under conditions of constant cost, less than 
one-half under conditions of increasing cost, and more 
than one-half under diminishing cost—is dependent 
upon the assumption of a demand changing at a regu- 


with cost declining along the line NM. A higher price would, 
under conditions of constant cost, cut off a larger area along and 
to the left of the line GH than it would add along and above the 
line FH. (As the price is raised by successive increments, the 
amounts cut off become successively greater, for the distance be- 
tween CC’ and DD’ becomes greater as we go to the left of GH. 
But the amounts added between OY and DD’ become progressively 
smaller as we go above FH.) The same is true if cost decreases 
along the line NM. For although the amount of net return cut 
off by a rise in price is not quite so great (by a small triangle, 
to the left of G between NG and CG) as in the case of constant 
cost, yet unless the line NM slants downward enough more rap- 
idly than the line DD’ to make the triangle above LG as large 
as the rectangle of which KH is the diagonal, more is cut off 
than is added. (If the distance GH is equal to the distance FH, 
the above statement is perfectly obvious. If the distance GH is 
half the distance FH, then the width cut off along GH by a rise 
in price will be twice the height added above FH and the conclu- 
sion that to raise or lower price from OF will not pay is equally 
demonstrable. And similarly for the other proportions.) So, also, 
under constant cost, a lower price would cut off more along and 
below the line FH than it would add along and to the right of 
the line GH; and this would be true, although the gain would be 
slightly greater (by a small triangle to the right of G, between 
GC’ and GM) and the net loss therefore less, in the case of de- 
creasing cost. (But unless the line NM declines considerably 
faster than the line DD’—i.e., unless it declines as steeply as a 
line drawn from the apex of the triangle to the middle of the 
base—the area added along and to the right of the line GH, even 
with the triangle between GC’ and GM included, will be less than 


128 THE ECONOMICS OF TAXATION 


lar rate with changes of price. But the conclusion that 
less of a tax is shifted by a monopoly if production 
is under conditions of increasing than if under con- 
ditions of constant cost, and that more is shifted if 
production is under conditions of diminishing cost, 
would prove to be true under other conditions of de- 
mand. However, when demand becomes suddenly 
much more elastic above the price charged prior.to the 


the area cut off along the line FH.) Suppose, now, a tax to be 
levied the amount of which per unit shall be measured by a narrow 
rectangle of the height CT, so that the tax on total output shall 
be that amount multiplied by the number of units of output, or a 
total measured by a rectangle of which the vertical distance is 
CT and the horizontal distance is CG or CL according to the 
amount of output. (The rectangle representing the tax will be 
CTJL in the case of constant cost, since the price will rise to OI 
and the sales or output will decline to CL). Then we shall see 
that price is likely to be raised more under conditions of decreasing 
than under conditions of constant cost. For, while the gain from 
an increase of price, as measured by a rectangle constructed along 
and above FH is the same whether cost is decreasing or constant, 
the loss in net returns in case some of the sales are cut off by the 
price rise (this loss being measured by an area along and to the 
left of the line GH) is less under decreasing than under constant 
cost by the area of the triangle formed to the left of G and 
between the constant cost line, CG, and the decreasing cost line 
NG. The price can be raised, therefore, in the case of decreasing 
cost, a larger amount after the tax before the gain from such 
increase no longer exceeds the loss. Of course, if, at a price at 
all above that which would be fixed under constant cost, the de- 
mand would absolutely cease (the demand line becoming hori- 
zontal), then the same price would be fixed under constant or 
decreasing cost. But the tendency is for a monopoly to raise its 
price more because of a tax on output, if it is producing under 
decreasing than if it is producing under constant cost. 


a 


MONOPOLISTICALLY MADE GOODS—TAXES 129 


tax, there might be no difference in the effect of the 
tax under conditions of constant, increasing and de- 
creasing cost since any rise of price under any of 
these conditions might not be desirable for the mo- 
nopoly. 

Expressing the matter in words, we may say that 
a monopoly is more likely to raise its price or is 
likely to raise it farther because of a tax propor- 
tioned to output if it _produces- under conditions of 
decreasing than if it produces ‘under conditions of 
constant cost. For by raising its price it gains as 
much on each unit of business still done as if it op- 
erated under conditions of constant cost; while its 
loss on the business cut off is less since the cost of 
this business (except for the marginal unit or units) 
is greater than in the case of constant cost. 

The conclusions we have reached: that under con- 
ditions of constant cost and regular demand a tax on 
the output of a monopoly will cause a rise of price 
of half the tax; that if production is under conditions 
of increasing cost a tax on output will be likely to 
cause a less price rise than if cost is constant; that 
under conditions of decreasing cost price will be likely 
to rise more; that in any of these conditions of cost, 
the conditions of demand may be such as to negative 
any price rise because of the tax; and that price may 
rise by even more than the tax,—these are conclu- 


130 THE ECONOMICS OF TAXATION 


sions which cannot be regarded as absolutely true. 
They are true to the extent that the proprietorse of 
the monopoly concern so taxed persistently and intel- 
ligently and without government interference seek to 
secure the maximum monopoly profits or returns. In 
practice the managers of a monopolistic concern may 
not be able to estimate within wide limits how a given 
increase or decrease of price will affect their sales, 
and, therefore, their output, taxes and net profits. A 
tax on output may cause them to raise their price 
by more than or by less than the amount by which 
they would raise it if they knew what would be the 
demand at each price. And if monopoly is so reg- 
ulated by government that it can charge no more than 
will yield the ordinary competitive return on actual 
investment in plant and equipment, while yet it could 
charge more without too great curtailment of de- 
mand, then a tax on output is likely to be shifted 
about as it would be under competitive conditions be- 
cause the regulating government will not improbably 
feel compelled to allow a higher price out of which 
the tax may be paid. 

Indeed, in the case of such monopolies, it is ordi- 
narily taken for granted that the tax will be added 
to the prices or rates fixed by the regulating com- 
mission. Thus, as most people are aware, the war 
tax on railroad passenger and freight traffic was so 


MONOPOLISTICALLY MADE GOODS—TAXES 131 


added to the regular charge. If such a tax were a 
permanent part of our revenue system and its addi- 
tion to rates actually reduced traffic and so reduced 
net revenues, it is entirely possible that the Inter- 
state Commerce Commission would consent to still 
further rate increases so as to permit “fair” or “rea- 
sonable” returns on investment. 

Again, there are, in fact, various degrees of monop- 
oly, so that, in many cases, it is not easy to tell whether 
the conditions affecting tax incidence are mainly those 
of monopoly or competition. What shall we say, for 
instance, of the tax on entertainments in towns and 
cities having one, two or three movie theaters? 

In all cases we must beware of concluding either 
that a tax is not being shifted because it is included 
in a formal price charged the buying public or that 
it is shifted completely because a part of the price 
paid by the public for an article or service is ear- 
marked as the tax. The formal price may be made 
higher because of a tax than it otherwise would be, 
or the apparent adding of a tax may be largely offset 
by a lower formal price than would be charged if it 
were not for the tax. 

But, despite these various qualifications and uncer- 
tainties, the theory of incidence of a tax on monopoly 
output, like the theory of monopoly price, is worth 
while. By means of it we can form a better notion 


132 THE ECONOMICS OF TAXATION 


of what are the possibilities and of what is likely to 
happen in any given case. Approximations to the 
complete account of a phenomenon are not to be dis- 
missed as unimportant or as irrelevant because they 
are approximations and not an absolutely complete 
account. Rather are they to be added to or qualified 
as the problem in hand may require and so used as 
an aid to judgment. As a result of the foregoing dis- 
cussion, we have reason to believe that, in general, 
a tax on monopoly output will be likely to raise prices 
to consumers, and that it may raise prices by more 
than the tax. Such a conclusion is not very precise 
but it is worth reaching. 


$7 
A Tax on Monopoly Net Profits 


A tax on the net profits of a monopoly cannot be 
shifted at all. A monopoly concern will naturally try 
so to fix the price of its product (or the prices of 
its products) as to get the largest net returns. And 
whatever price yields the largest net returns in the 
absence of any tax whatever will also yield the largest 
net returns if the tax is a lump sum or if it is some 
fixed per cent. of net gain. Thus, if the net profits 
of a monopoly after subtracting all costs are greater 
at a price of $10 per unit output than at a price of 





MONOPOLISTICALLY MADE GOODS—TAXES 133 


$11, a tax of 9/1o of these net profits will still leave 
the monopoly concern more than if it raised the price 
of the product to $11 and paid 9/i1o of a smaller 
gain. For 1/1o of a larger sum is clearly more than 
1/10 of a smaller. It may be indeed better policy to 
regulate the price, prices or charges of an industry 
naturally monopolistic than to let it get monopoly 
prices and then tax its net returns. But if a monopoly 
is to be free to fix what prices its owners please it 
will not, assuming intelligent action on the part of 
its Owners or managers, fix higher prices if its net 
returns are taxed than if they were not. 

The chances are that to allow a monopoly to charge 
high prices for its goods, when regulation of its price 
or prevention of monopoly control is feasible, in or- 
der that the state may tax the profits so permitted, 
will injure citizens more than it will benefit the state. 
Buyers of the monopoly-produced goods will have to 
pay higher prices by as much as the state gains. In 
addition to this, the higher prices will keep some 
from buying who would buy were the prices lower. 
These would-be buyers will suffer a loss of utility for 
which there is nowhere a balancing gain. 


134 THE ECONOMICS OF TAXATION 


§ 8 
Summary 


In this chapter we have considered the incidence 
of taxes on monopoly according to output and of 
taxes on monopoly profits. We have seen that taxes 
on monopoly output might, according to various con- 
ceivable conditions of demand, cause the intelligently 
managed monopoly to raise its price for the taxed 
article by more than the tax, by less than the tax, 
or not at all. We have seen that given constant cost 
and a demand changing by the same amount with 
each unit change in price, a tax of a given amount 
per unit output would make the price of highest net 
return higher by half the amount of the tax.. We have 
seen, also, that a tax on monopoly output is likely 
to cause a less rise of price in case production is 
under conditions of increasing cost than if under con- 
stant cost, and a greater rise of price if production 
is carried on under conditions of diminishing cost. 
Finally, we have seen that a tax on the net gains 
of monopoly leaves the most profitable price just 
where it was before and so tends not to be at all 
shifted upon consumers. It may be possible, by reg- 
ulating the rates or prices of industries which are 
best run as monopolies and by making monopolies in 


MONOPOLISTICALLY MADE GOODS—TAXES 13 5 


other industries illegal, to keep rates and prices in 
general on a competitive level. If this suggested al- 
ternative is possible, then to allow monopolistically 
high rates and prices, out of which something goes 
to government as tax, is, in effect, to tax consumers, 
and to injure (in general) would-be consumers who 
forego consumption because of the high prices. 


Norte: It may be worth while to inquire whether a tax 
on monopoly in proportion to gross returns would affect 
price in like manner and degree as a tax on output. In 
a competitive industry if the producers (including all fac- 
tors) are all marginal, a tax on output or on gross returns 
must be shifted entirely upon consumers. And under con- 
ditions of increasing cost part of the burden falls upon 
producers and part on consumers whether the tax is on 
gross output or on gross returns. In either case the new 
point (price) of equilibrium, after the tax, will be one 
such that the producing factors (land, labor and capital) 
which are just induced to remain in the business will get 
out of the price, after paying the tax, just enough to pre- 
vent change into some other business (or, in the case of 
marginal land, change from use to non-use) from seeming 
worth while. In the case of a competitive business, there- 
fore, the problem of the incidence of a tax on gross re- 
turns is fundamentally no different fiom that of a tax on 
output. 

But there is some ground for making a distinction in 
the case of a monopoly, and the conclusion appears to be 
that a tax on gross returns is likely to cause price to rise 
less than a tax on output. The general reasoning by which 
_ this conclusion is arrived at is certainly plausible and 


136 THE ECONOMICS OF TAXATION 


should perhaps be convincing. It is based on a compar- 
ison between gross returns and gross output. An increased 
price will decrease demand and, therefore, appreciably cur- 
tail output. But gross returns are figured by multiplying | 
gross output and price. And since the decline in output, 
in case there is an attempt to shift or partly shift a tax, 
is consequent on a rise in price, the product of output and 
price will not decrease in as rapid proportion as will physi- 
cal output. It appears to follow that a tax in proportion - 
to output is likely to cause a greater rise in price than a 
tax according to gross returns. For a tax according to 
output decreases as output decreases and a tax according 
to gross returns decreases only as gross returns decrease. 
And, therefore, a tax according to output is cut off to a 
larger extent by a rise of price which results in decreased 
output than is a tax according to gross returns. Neverthie- 
less, the conclusion that a tax on gross returns will not 
ordinarily cause as great a rise in monopoly price as a tax 
on. output cannot be made obvious by concrete illustration 
without considerable difficulty. For a tax on gross returns 
and a tax on output are not easily comparable on any 
common basis. Thus, consider the table which we have 
used in this chapter for the case of monopoly producing 
under conditions of constant cost and which illustrates the 
fixing of monopoly price at the point of largest monopoly 
gains: 


Expense Profit 


Price Sales persale persale Profits 
$20 O oo $ Oo 
19 20 $8 $11 220 


18 40 8 ste) 400 


MONOPOLISTICALLY MADE GOODS—TAXES 137 
Expense Profit 


Price Sales per sale persale Profits 
17 60 8 9 540 
16 80 8 8 640 
15 100 8 7 700 
14 120 8 6 720 

a ee 140 8 cine 700 
12 160 8 4 640 
II 180 8 3 540 
Io 200 8 2 400 

9 220 8 I 220 
8 240 8 fe) fe) 


‘In this table the price of largest profits is $14. Under the 
peculiar conditions of demand and cost here illustrated we 
have found that a tax according to output makes the price 
of largest profits higher than before by just half the amount 
of the tax per unit. How shall we compare with this a 
tax levied according to gross returns? What point shall 
we take as our starting point for the purpose of compari- 
son? Suppose we should take the price of $14 (the price 
of highest return in the absence of a tax) as our base or 
our point of departure, and suppose we take as our tax 
on the gross returns at that price that amount which is 
equal to a tax of $8 per unit output. At a price of $14, 
there would be, according to our table, 120 sales. A tax 
of $8 per sale would come to $960. The gross returns 
would be $14 (the price per sale) times 120 (the number 
of sales), or $1680. A tax of $960 is 4/7 of $1680. Sup- 
pose, therefore, we reckon the tax on gross return which 
is to be compared with a tax of $8 per unit output, as 4/7 


138 THE ECONOMICS OF TAXATION 


of the gross returns at every possible price. The following 
table shows gross returns, tax, etc., at each price: 


Gross Profits Profits 

Price Returns Tax before Tax after Tax 
$20 a a — — es 

19 380 S20 ISLS 7 pe 20 2 6/7 

18 720 ATINGE (PeAoOG —II 3/7 

17-1020 592 6/7 540 —52 6/7 

16 1280 731 3/7 640 EA? 

15 1500 857 1/7 700 SES Tee 

14 1680 960 720 —240 

13 1820 1040 700 —340 

12 1920 =©1097 1/7 640 —457 1/7 

BDA TORO A UT TST G7 tm S40 —591 1/7 

IO 2000 L142 10 /7214400 —742 6/7 

9 T980 LE Zt SAT 20 —QII 3/7 

8 1920 10907 1/7 Oo —1097 1/7 


The price of highest net gain after the tax is here shown 
to be (taking the nearest integer) $5 above the previous 
price in the case of a 4/7 tax on gross return, whereas 
it would have been only $4 above in the case of an $8 tax 
per unit output. The conclusion we would seem to be led 
to by this example is, therefore, directly opposite to that 
which we were led to in our general reasoning. (Had we 
compared a commodity or output tax of $4 with a tax of 
2/7 of gross returns—instead of $8 and 4/7 respectively 
—our conclusion from general reasoning would have seemed 
to be upheld). 

The trouble probably is that in the terms of our illus- 
tration we are not fairly comparing a tax on gross returns 
with a tax on output. For we are at the same time com- 


MONOPOLISTICALLY MADE GOODS—TAXES 139 


paring a large tax with a small one. It is true that both 
taxes are the same at the price of $14; but at a price of $18, 
while the tax per unit of $8 comes to an aggregate of $320, 
at the same price a tax of 4/7 of gross returns comes to 
the much higher aggregate of $411 3/7. When, therefore, 
we are comparing a gross returns tax of 4/7 with a tax on 
output of $8 per unit, to see whether the former tax will 
cause a price rise of more or less than the $4 rise under 
the latter (under the conditions here given), we are really 
comparing two taxes one of which at or about the price or 
prices likely to be fixed is much higher than the other. 
To make our starting point where the tax of $8 per unit 
and 4/7 of gross returns are equal, the price of largest 
profits before the tax, might be a fair and significant way 
of approaching the problem if the question were whether 
in one case or the other the price was more likely to be 
raised at all. But if the question is whether the price is 
likely to rise by $4 or more or less, then it would seem 
more reasonable to compare the effects of taxes which are 
the same at some pivotal price near the price or prices 
likely to result because of the tax. 

Such a pivotal price in the specific case in contempla- 
tion would be $18, which is $4 higher than the price which 
would be fixed in the absence of a tax. This price, $18, is 
the price that would be brought about by a tax of $8 on 
each sale or unit of output. We shall consider the tax on 
gross returns, with which comparison is to be made, to 
come to the same aggregate, $320, at this price. Then the 
tax on gross returns is 320/720 or 4/9. At a higher price 
a tax of 4/9 on the gross returns will come to more than a 
tax of $8 per unit output and at a lower price, to less. 
Hence, the tax on gross returns will tend to cause a less 
rise of price than the tax on output: 


140 THE ECONOMICS OF TAXATION 


Gross Profits Profits 

Price Returns Tax beforeTax after Tax 
$20 $ 0 $ 0 BuO ero 

19 380 168 8/9 220 51 1/9 

18 720 320 400 80 

17 1020 435 1/3 540 86 2/3 

16 1280 568 8/9 640 ar) E38 

15 1500 666 2/3 700 KK PRE Ae 

14 1680 PAO 2 Eh TOO —26 2/3 

13 1820 808 8/9 700 —108 8/9 

12 1920 B55) 17300 One —213 1/3 

Nae 1980 880 540 —340 

10 2000 880 8/g 400 —488 8/9 

9 1980 880 220 —660 

8 1920 853 1/3 000 —853 1/3 


Here a tax of 4/9 on gross returns tends to make a price 
rise of but $3 (to the nearest integer) or a less rise than 
a tax of $8 per unit output. This is consistent with the 


conclusion to which we were led by general reasoning. (If 


we should take a tax on gross returns, of 4/9, find what 
price the monopoly would fix after such a tax, and then 
find the tax per unit of output which would make the same 


ageregate tax at that price, and compare a 4/09 gross re- 


turns tax with such a tax on unit output, we should again 
see the tax on gross returns tending to a less rise of price 
than the tax on unit output.) 


CHAPTER V 


THE INCIDENCE OF TAXES ON LABOR 
INCOMES 


§ 1 
The Incidence of Taxes on Wages in General 


In considering the incidence of taxes on labor in- 
comes we may advantageously divide the problem into 
the following separate cases: 


1.—Taxes on wages in general. 

2.—Taxes on all wages in any one line. 

3.—Taxes on the surplus labor incomes above 
some fixed return, of the more successful 
workers (including persons in the profes- 
sions). 


But before considering the incidence of taxes on 
wages-in-general, it will be well to make clear that 
there are such taxes. In the countries with which 
readers of this book are familiar there are not, it 
is true, taxes levied directly on wages as such. In 
some jurisdictions there are poll taxes levied on each 
adult man or each adult person, and these taxes are 
a direct subtraction from the incomes of wage-earners. 

14! 


142 THE ECONOMICS OF TAXATION 


But in nearly all jurisdictions there are taxes on com- 
modities which, as we have seen, are shifted in large 
part upon consumers (sometimes, also, are put back 
upon producers), and which, therefore, are paid, in 
considerable degree, by wage-earners. So now, in 
discussing the ultimate incidence of a tax on wage- 
earners, we shall also be discussing the problem 
whether that part of a tax on commodities which falls 
upon labor incomes, can be shifted any further. In 
other words, we have to reopen for possible quali- 
fications of our conclusion, the case of taxes on com- 
modities. For although such taxes may seem to be 
shifted, in large part, upon consumers, in the first 
instance, it is possible that in the long run some or 
all of the consumers (in our present problem, the 
wage-earners) will find the burden again shifted upon 
04 Shoulders of some other class or classes. 
The fonetn incidence of a tax which is imposed 
( directly on labor—or which is so levied that it falls 
| indirectly upon the earnings of all labor—depends 
~~ pon. its ¢ effect on population. Suppose a tax to be 
levied which takes one-fifth of all labor incomes. The 
remaining four-fifths may or may not provide enough 
to enable workers to maintain themselves and repro- 
duce an equivalent population in the next generation. 
Even if it is enough so that they can reproduce an 
equivalent population in the next generation, it may 


4 


TAXES ON LABOR INCOMES 143 


not be enough so that they will do so. For they may 
have standards of comfort such that they will be 
unwilling to have as many children if their incomes 
are reduced as they might otherwise have. But even 
if the tax does not actually make the population 
smaller in the next generation than in this, it may 
make the population smaller in the next generation 
than it otherwise would be in that generation. Still 
again, the effect of a tax falling upon wages and so 
lowering the average of comfort enjoyed by workers 
in the country levying the tax might be to diminish 
immigration and so cause population in that country 
to be less than it otherwise would be. If the tax op- 
erates in any of these ways to diminish population and 
so to make the supply of labor less, it is likely to 
make wages higher—not necessarily higher than they 
now are but higher because of the tax than they would 
be if the tax were not levied. 

There is, of course, no intention to assert that a 
tax on the incomes of labor must decrease the well- 
being of wage-earners and so affect population. For 
the taxes collected may be so expended by government 
as to further the welfare-of wage-earners. The con- 
clusion remains true, however, that the tax makes 
labor incomes lower than they would be if the funds 
were raised_from_ some “other class~ or “classes than 
pane-earners, and. ‘that,- if the funds raised are ex- 


144 THE ECONOMICS OF TAXATION 


pendedso as not to benefit wage-earners, then the 
tax is a real deduction from labor incomes. Hence 
it is worth inquiring what effects such a tax might 
possibly have on population and therefore on future 
wages. 

But that wages would be higher with a smaller 
population than with a larger one may not be ob- 
vious. Can 9/to of a hundred million people produce 
more than 9/1o as much as a hundred million people 
can produce? And if not, can a decrease of popula- 
tion make wages higher? In order to reach a con- 
clusion on this topic it is necessary to advert to the 
law of diminishing returns. If the number of workers 
on a given area and with a given capital equipment 
is too greatly increased, the per capita production is 
decreased. Saving and, therefore, the addition of new 
equipment may or may not keep pace with increas- 
ing population. But whether it does or does not, 
natural resources—land—do not. As these natural 
resources—or this land area—come to be used more 
and more intensively, the total volume of wealth pro- 
duced increases, but the production per person de- 
creases. Additional workers, beyond a certain point, 
make smaller and smaller additions to product. The 
advantage of having more workers in a country where 
the best land is all in use and is intensively culti- 
vated, where the best commercial, industrial and other 


TAXES ON LABOR INCOMES 145 


sites are already occupied and thoroughly used, is 
slight. They must either cause to be used more in- 
tensively land or land and equipment already almost 
completely exploited, or they must devote themselves 
to the exploitation of poorer sites and soils previously 
unused. For either of such activities their services 
have relatively little value and the wages they can 
command are relatively small. Assuming general in- 
telligence and civilization to be equal, the countries not 
so much overpopulated, e.g., the United States and 
Canada, have higher wage standards than the more 
crowded countries such as Belgium, Holland, Italy, 
Germany, and England. The amount which any wage- 
earner can add to what would be the product without 
him, i.e., his marginal product, is larger, and the de- 
mand for his services is therefore great enough to as- 
sure him of higher wages. If the population is 
doubled, the additional persons may be, as workers, 
as good as or as efficient as the others; but, with no 
increase of area or resources, the product per per- 
son and, hence, wages, may have to decrease. If, 
then, a tax on wages does operate to make population 
smaller than it otherwise would be, it is likely to 
make the marginal product of labor somewhat larger 
and wages higher. 

The owners of capital might, then, possibly, find 
their interest return smaller. But if the reduction of 


146 THE ECONOMICS OF TAXATION 


interest tended to decrease the volume of capital and 
so to raise interest, at least the owners of land would 
find their incomes smaller. The poorer land would 
not be used at all. The better land would be, relative 
to population, more ample than before. Although the 
per capita production might, therefore, be greater, the 
rent of land would be smaller. Tenants, because of 


less competition, would pay less rent. Employing — 


landowners, hiring fewer laborers at larger wages, 


would have less remaining to them out of the product. — 


A tax on labor incomes may, therefore, by decreasing 
population, eventually not only prevent the continued 
exploitation of poor natural opportunities with the 
consequent small incomes to the labor exploiting them, 
but may also decrease the demand for the better re- 
sources and sites, thus reducing land rent. 

This is what the Physiocrats insisted would be a 
necessary result of taxing wages. Only the rent of 
land, they said, was an income “disposable” by the 


state. Wages were a necessary means of subsistence, | 


interest a necessary stimulus to saving. The rent of 
land was alone a surplus or net product (produit net).* 
Nevertheless, we cannot with certainty reach the same 
conclusion. For the conclusion depends upon the 


1A good exposition of physiocratic theory is to be found in 
Turgot’s Reflections on the Origin and Distribution of Riches, 


translated by W. J. Ashley in Economic Classics, New York (Mac- — 


millan), 1898. 


TAXES ON LABOR INCOMES 147 


hypothesis that a tax on labor will so increase the 
death rate or so decrease the birth rate as to make 
population in a later generation smaller than it would 
be if there were no tax. And it is at least conceivable 
that no such effect would be produced. Wages might 
be high enough to begin with so that to tax them 
would still leave enough for comfortable subsistence; 
so preventing any increase in the death rate. Like- 
wise it is possible that the diminished incomes would 
cause other economies rather than decrease of the 
birth rate. Indeed, it is conceivable that reduced 
incomes to wage-earners, so brought about, might lead 
to less education and intelligence, discouragement, 
recklessness and a higher birth rate than before. We 
can safely assert that a tax on wages may tend in 
the direction of smaller population later and may, 
therefore, be more or less shifted, in time, upon land- 
owners. But we cannot assert that this must be the 
case. 


§ 2 
The Incidence of Taxes on all Wages in any One Line 


Let us now consider what effect or effects may be 
produced by a tax on all wages in any given line or 
lines but not on wages in general. Thus, suppose a tax 
on all bricklayers of one-third their incomes which 


148 THE ECONOMICS OF TAXATION 


was not imposed on laborers of other kinds. Clearly, 
the wages of bricklayers must rise until they were 
about as high, relatively to wages in other lines, as 
before. The resulting new equilibrium would be 
brought about partly through a decrease in the num- 
ber of bricklayers. The number must decrease to 
‘ such a point that the remainder could command higher 
wages than before. This means that a larger num- 
ber of persons must be employed in other occupations 
and the wages received in these other occupations 
would tend to fall slightly. But such an effect of 
reduction of wages would be spread over so many 
lines as to be hardly appreciable in any one. A tax 
on wages in any one line tends, therefore, to be dis 
tributed over wages in general, leaving them in abou 
the same relation to each other as before. Whether, 
then, the kind of tax under discussion is shifted upon 
any other class than wage-earners, e.g., landowners, 
depends upon whether the burden, so distributed 
among wage-earners, affects population in succeeding 
generations. Hence, at this point, our study of 
whether and how a tax on some wages is shifted 
coalesces with our study of whether and how a tax 
on all wages is shifted. : 

The proposition that a tax on some wages would 
indirectly affect all wage-earners in about equal de- 
gree requires some qualification. To do so the tax 


TAXES ON LABOR INCOMES 149 


must cause a redistribution of labor out of the taxed 
line and into other lines. But such a redistribution 
might be extremely slow. Especially would this be 
likely to be the case if the trade in question happened 
to be one requiring a high degree of specialized skill. 
Despite the tax it might then still yield more than 
unskilled labor and more than those trained in it 
could for some years get in any occupation of equal 
grade for which they might begin to prepare them- 
selves. Unless the tax were very high indeed, nearly 
all of those in the taxed line would probably prefer 
to remain in it rather than change to lines in which 
they were relatively incompetent. ‘The chances are 
that but few persons in a highly specialized trade 
would be marginal between this and others and so 
likely to change because of a moderate tax. Only 
after the lapse of years, during which a new genera- 
tion was coming into the industrial structure, would 
the readjustment be complete. To the young, un- 
trained in any special trade or profession, free to 
choose as those who have already committed them- 
selves are not, such a tax would be an effective de- 
terrent. In time, therefore, we might expect to find 
fewer persons acquiring the special kind of skill of the 
taxed trade and more persons entering other trades, 
until the pre-tax equilibrium was restored. Of course 
the existence of strong innate tastes and aptitudes on 


150 THE ECONOMICS OF TAXATION 


the part of many persons in favor of the taxed trade 
would operate to prevent much of a readjustment even 
if the trade were especially taxed. But it is doubtful 
if there is any trade for which there are innate tastes 
or aptitudes strong enough and on the part of per- 
sons enough so that this is any considerable factor 
in the problem. 

But suppose the tax on labor incomes to be im- 
posed only on incomes of the more highly paid occu- 
pations, e.g., the professions. Would it then cause 
a redistribution of labor, even in the long run, into 
lines less well paid—requiring not skill of an equal 
grade but skill of a lower grade? It has been argued 
by some writers* that such a tax is likely not to be 
shifted. Here a categorical yes or no will not be at- 
tempted. Whether such a tax can be shifted upon 
labor in general, depends upon whether it would actu- 
ally keep any appreciable number of persons out of 
the professions and like highly-paid occupations and 
force them into other lines. Whether it would do so 
or not depends upon whether fewer persons would go 
into the professions, etc., for somewhat lower relative 
returns than those received previous to the tax. It 
it conceivable that such a reduction in returns would 

1John Stuart Mill, Principles of Political Economy, Book V, 
Chapter III, Sec. 4; cf. also Seligman, The Shifting and Incidence 


of Taxation, fourth edition (Columbia University Press), 1921, pp. 
367, 368. 


TAXES ON LABOR INCOMES 151 


not at all diminish the number going into the pro- 
fessions, etc. For it is conceivable that the returns 
in the professions are, in the absence of such a tax, 
more than large enough to entice into them nearly 
all those whose circumstances make professional life 
a reasonably attainable ambition. If we suppose that 
the earnings of the professions are higher than the 
earnings of the trades or crafts and of common labor, 
by a great deal more than enough to pay interest on 
the additional investment, but that the numbers in the 
professions remain small because the securing of the 
necessary training is for those in the lower wage 
classes practically impossible; and if we suppose that 
those to whom it is possible would still go into the 
professions despite the tax; then we must conclude 
that the tax would simply take for public purposes 
a part of the earnings of those whose incomes were 
already unusually high. There would be no shifting 
at all or not any of importance. But it is not im- 
probable that any considerable tax on the incomes of 
the exceptionally well-paid occupations would have 
some tendency to affect the numbers in those occu- 
pations and in others and so to be distributed over 
wages in general. Entrance to those well-paid occu- 
pations is by no means absolutely limited to the chil- 
dren of those already in them and of the propertied 
classes. There are others who struggle to and do get 


152 THE ECONOMICS OF TAXATION 


into them because of the expectation of high incomes 
in them. And a reduction of such incomes through 
taxation might remove from many such the induce- 
ment to make the struggle and so decrease the num- 
ber in the professions and raise professional incomes. 

But what if the tax applies not to all incomes in 
the better paid occupations but only to the larger 
incomes in those occupations? In that case it might 
be argued that none would be dissuaded from enter- 
ing one of those occupations since any person who 
might be in a position to do so would expect that no 
tax would be imposed upon him except as his income 
was larger than it could possibly be in the crafts or 
in common labor. The ordinary man would be un- 
affected by the tax, it might be argued, since the or- 
dinary man could hardly hope, in almost any case, 
to get from his prospective profession an income large 
enough to be thus taxable. And the genius would 
still choose a profession, it might be argued, if he 
were at all able to do so, since the more common 
occupations would not offer scope for his ability. But 
the fact is that few can tell, in youth, how great their 
success may be. Each hopes to be among the fortu- 
nate few, and the possible chance which each feels 
that he has to win high success is undoubtedly the 
lure that induces many who at least are only moder- 
ately successful or not successful at all, to enter the 


TAXES ON LABOR INCOMES 153 


professions. It is not, then, altogether unreasonable 
to suppose that a considerable tax on the surplus 
earnings of the more successful in selected occupa- 
tions would, in the long run, cause a readjustment of 
occupations and a distribution of the burden over all 
labor incomes—with, conceivably, some influence on 
population and so, ultimately, on land rent. 

It is not to be denied, of course, that a tax resting 
on the crafts and upon common labor might, by dimin- 
ishing incomes requisite for education, do more to pre- 
vent movement upward into the better-paid occupa- 
tions than a tax on the latter. But as compared with 
a tax which does not rest upon labor at all, e.g., a 
tax on the economic rent of land, a tax even on only 
the surplus earnings of the more highly remunerated 
persons in the professions might in some degree dimin- 
ish the number of persons entering the professions. 


§ 3 


The Incidence of Taxes on Surplus or Unusually 
High Labor Incomes 


But suppose our tax to be levied on high labor in- 
comes in general, without any regard to the occupa- 
tions in which they are realized. Would such a tax 
have any effect in redistributing labor? That it would 
do so is perhaps somewhat doubtful, yet, on theo- 


154 THE ECONOMICS OF TAXATION 


retical grounds, not impossible. For although such a 
tax does not in form distinguish among occupations, 
in fact it rests more heavily upon the occupations in 
which large financial success is possible than upon 
those which never by any chance yield more than a 
few thousand dollars a year. And it might so dimin- 
ish the attraction of the highly-remunerated occupa- 
tions, e.g., the professions, for many persons, as to 
have a real effect on the relative numbers in them. 
Some who would have entered medicine, engineering, 
or law might decide that clerical work, the crafts, or 
other so-called lower grades of labor would be more 
desirable. 

Our contemporary system of income taxes is, in 
part, such a discriminatory tax on the larger labor 
incomes and, therefore, on the labor incomes of the 
more highly paid occupations. It is true, of course, 
that these income taxes apply to income from prop- 
erty as well as to income from labor. For our present 
purpose, however, we may consider them as a com- 
bination of two types of taxes, viz., taxes on property 
income and taxes on labor income. Indeed, we might 
consider them as a combination of three types of taxes, 
viz., taxes on land rent, taxes on the interest of cap- 
ital, and taxes on the wages of labor. There is cus- 
tomarily an exemption from these taxes of a fixed 
annual amount. In the case of the income tax of Mis- 


TAXES ON LABOR INCOMES 155 


souri, $2,000 of income per year of a married couple, 
plus $200 more for each dependent child, is exempt. 
The Federal income tax makes these exemptions $2,500 
and $400 respectively. And in the case of the Federal 
tax, the tax is progressive as the taxed income increases, 
the highest rate applying only to very large incomes. 
So far, therefore, as these contemporary income taxes 
are on the incomes of labor, they apply particularly to 
the larger labor incomes. Hence they apply particu- 
larly to incomes from the more highly paid occupations. 
That such taxation operates to diminish the number 
of persons preparing for such occupations, and so 
diminishes competition and raises the rate of remuner- 
ation in them, cannot be conclusively proved. Yet 
there is reason for suspecting some slight tendency 
in this direction. 

But as compared with a tax on small labor earnings 
and large ones alike (instead of compared with no tax 
whatever on labor incomes) a tax on the larger labor 
incomes might not at all diminish the number in the 
professions. For it would at least not lessen the 
ability of the comparatively poor to enter or to put 
their children into the better paying occupations, while 
a tax on all labor incomes might do so. 


is6 | THE ECONOMICS OF TAXATION 


§ 4 


Summary 


The foregoing discussion of the incidence of taxes 
on labor incomes may seem disappointing to some 
readers because of the indefiniteness of the conclu- 
sions. We cannot say that a tax on wages in general 
will or will not be shifted upon some other class or 

\ classes than wage-earners but only that it may be so 
shifted in whole or in part if it makes population 
smaller in a later generation than if it had not been 
levied. If there is such shifting it is, certainly, not 
immediate or anything like immediate. For many 
years such taxes must rest upon wage-earners. 

In like manner we cannot say that a tax on labor 
incomes in some or a few lines will be distributed over 
all labor incomes. ‘The effect will depend upon the 
mobility of labor in the taxed line or lines. Nor can 
we say that taxes on the higher labor incomes will 
or will not necessarily affect all labor incomes, for 
such taxes may or may not affect the distribution of 
labor to different occupations. 

Nevertheless, our study is not entirely in vain. We 
have, in some fashion, surveyed the field. We know 
something about the nature of the forces which may 


TAXES ON LABOR INCOMES 157 


operate and we are in a better position than if we 
had not considered these forces to understand what 
are the possibilities in the way of rapid and long-time 
shifting of such taxes. With this we shall have to 
be content. 


CHAPTER VI 


THE INCIDENCE OF COMPULSORY INSURANCE 
OF WORKMEN 


§ I 
Statement of the Problem 


In contemporary discussions of workmen’s compen- 
sation laws much is heard regarding the ultimate inci- 
dence of the burden of the insurance premiums. The 
most common conclusion seems to be that this bur- 
den_rests_ultimately-—on-—the-consumers~of.the goods 
produced, by. the..insured.wage-earners.1 The conten- 
tion of this chapter is, on the contrary, that the in- 
cidence of the burden is upon. wage-earners as, such, 
There is no. intention. .to.argue.that the burden nec- 
essarily rests.upon the particular groups or trades of 
wage-earners.insured (if the insurance is not general) 
or that relative prices of goods are in no case affected. 
But there is an intention to assert that the burden of 
such insurance is shifted finally upon wage-earners 

1 Professor Taussig, however, argues that when such insurance 
is general, the burden is upon wage-earners, although it is not 
clear that he believes this to be the case when the insurance is 
required only in some industries. See his Principles of Economics, 


third edition, New York (Macmillan), 1921, Vol. IL, pp. 353-354. 
158 


INCIDENCE OF WORKMEN’S INSURANCE 159 


as such rather than upon the receivers of interest 
from capital or rent from land; and there is an in- 
tention to assert that this is as true if and when in- 
surance is required only in especially dangerous in- 
dustries as it is if and when such insurance is required 
in all industries. 

It is sometimes urged by way of argument for com- 
pulsory insurance of employees by employers, that 
the money paid to insurance companies or to the state 
in premiums for insurance is really not a burden in 
any considerable degree upon any one. For, it is said, 
the system of compulsory compensation for employees 
avoids the litigation of damage suits with the con- 
sequent large fees paid to lawyers by both sides. 
Whether this view is well-founded or not we need 
not here inquire. The insurance premiums which have 
to be paid do, at least, cost something even if they 
cost no more than litigation might otherwise cost. 
It might be a proper question what is the ultimate 
incidence of the expense of litigation in the absence of 
compulsory insurance. It is certainly a proper ques- 
tion what is the incidence of the insurance premiums 
when such insurance is required by law. 

For clearness in discussing the problem at issue we 
may distinguish the three following cases: 

1. Where the insurance has to be paid for, at some 
percentage of wages, by all employers of all labor. 


160 THE ECONOMICS OF TAXATION 


2. Where such insurance is required only in special 
lines—as, for example, the more dangerous industries 
—and where the certainty of compensation in case of 
accident makes workmen willing to work for corre- 
spondingly less current wages. 

3. Where such insurance is required only in special 
lines and where the workmen either so underestimate 
or so overlook the likelihood of accident or think so 
little about the advantages of compensation that they 
are not willing to work in the insured industries for 
less wages than if the insurance and the consequent 
compensation were not provided for. Let us consider 
these three cases in order. 


§ 2 


Incidence when Insurance is Required in All Trades 
or Occupations 


To the student of the theory of distribution and the 
incidence of taxation the first of the cases ought to 
seem entirely simple. If and so far as it is true that 
employers hire workers up to the point where the 
difference between the product with and without an 
additional worker is not appreciably greater than the 
wages paid; and if wages in general are fixed by the 
demand for labor of all such employers taken along 
with the supply; then a payment which must be made 


INCIDENCE OF WORKMEN’S INSURANCE 161 


for insurance, with each worker hired, will certainly 
enter into the intelligent employer’s calculations. 

To illustrate, suppose the marginal worker of a 
given grade of efficiency to be worth, in any estab- 
lishment, 1,200 units of product a year. Then at 
wages up to approximately 1,200 units such a worker 
may be hired. If all available labor can be employed 
without reducing the marginal product of labor of 
this grade below 1,200, then the demand for such 
labor at approximately that wage will equal the sup- 
ply. In that case 1,200, or not appreciably less, will 
be the wage-rate. 

But if, for each worker hired, the employer must 
pay 20 as an insurance premium, then the marginal 
worker will not be employed at wages of 1,200 but 
only in case he accepts 20 less, viz., 1,180. At wages 
for the grade of labor in question, higher than 1,180, 
some labor will be unemployed, the supply of labor 
will exceed the demand for it. The insurance premium 
must be paid for each employee who is hired. The 
potential employer, therefore, before hiring the work- 
man, compares the value of his services not with his 
prospective wages alone but with these wages plus 
the cost of the required insurance. And he will not 
knowingly employ a workman whose services are worth 
no more than his wages alone.* 


1Cf, Taussig, loc. cit. 


162 THE ECONOMICS OF TAXATION 


The foregoing conclusion cannot be avoided by sup- 
posing that the insurance premiums are reflected in 
rising prices. For there is nothing in the assumed . 
situation which can be expected to make prices higher. 
The payment of premiums for the insurance of em- 
ployees does not increase the amount of money in 
the country. It does not make bank reserves larger, 
or banks better able to extend credit. It does not, 
therefore, presumably, increase the demand for goods 
and bid up prices. On the other hand, there is noth- 
ing in the requirement of compulsory insurance of 
employees to decrease, as a long-run matter, the supply 
of goods. Workmen cannot afford to remain long 
idle even if their wages fall by the amounts paid as 
premiums for their insurance. They will not, there- 
fore, in the long run, produce appreciably less goods. 
The prices of goods will be raised neither by an in- 
creased demand nor by a decreased supply. The in- 
surance premiums cannot diminish the demand for 
the use of capital and so reduce interest, since they 
are not imposed on the use of or in proportion to the 
amount of use of capital. They cannot diminish the 
demand for the use of land and so reduce rent. Their 
only effect must be to reduce wages. It follows that 
upon wage-earners, as such, must fall the ultimate 
burden of the payments. A tax upon all commodities 
or upon all sales would fall, in the last analysis, upon 


INCIDENCE OF WORKMEN’S INSURANCE 163 


Wage-earners, interest-receivers, and_ rent-receivers. 
If, there being no more money or credit to spend for 
goods, labor, etc., such taxes raise the money prices 
of goods, then they will lower money incomes in gen- 
eral—not merely wages. Prices of consumable goods 
can rise, though money incomes decline, because the 
government, with the money received from the taxes, 
buys the surplus goods which citizens cannot buy. 
The prices of goods, including the taxes, will be higher; 
money incomes will be lower. So much money being 
paid in extra prices of goods, because of the taxes, 
less money can be paid to the producers of goods. 
Net prices—i.e., prices minus the taxes—will be some- 
what lower than prices would be if there were no taxes. 
But net prices determine possible rentals, interest, and 
wages. The money values of the marginal products of 
land, capital, and labor are reduced. Hence, the money 
incomes of landowners, capitalists, and laborers are 
lessened. An insurance premium, however, imposed 
upon employers not in proportion to output or to sales 
but according to the number and wages of workers 
hired, will not raise prices in general and must fall 
upon wage-earners and upon wage-earners alone.* 
Wages plus premiums will equal what wages were be- 
fore. The prices of goods will not be raised. 


1 Note, however, qualifications toward end of this Chapter (VI). 


164 THE ECONOMICS OF TAXATION 


$3 


Incidence when Insurance is Required in Some Lines 
and Advantages are Realized by Workmen 


We have now to consider the second case, viz., where 
insurance of workers is required not in all but only 
in especially dangerous industries and trades and 
where the certainty of compensation in case of acci- 
dent makes the wage-earners willing to work for cor- 
respondingly lower current wages. ‘This case is surely 
clear enough. If the insurance against accident in 
these industries and trades is thus clearly conceived 
by workers as an advantage in so far offsetting the 
incident dangers, then wages in these industries and 
trades will ultimately be lower by just about the 
amount of the premiums which must be paid. Higher 
wages than this would diminish the demand for labor, 
since at higher wages the marginal man would not 
be worth his wages plus the insurance premium. Also, 
at any higher wages, under the assumed conditions re- 
garding the attitude of workers, the insured industries 
would become relatively more attractive than before 
and supply of labor for them would exceed demand. 
But wages less than before by just the amount of the 
premiums required would, under the assumed con- 
ditions, leave as large a supply of labor for the in- 


INCIDENCE OF WORKMEN’S INSURANCE 165 


dustry as before, since the workers regard their cer- 
tainty of compensation in case of injury as offsetting 
the reduction in the wages currently paid to them, 
Also, wages lower than those paid prior to the insur- 
ance requirement would mean the same total expense 
to employers on the marginal workers hired by them, 
as before, and would therefore make demand for 
labor the same as before. Demand and supply would 
therefore balance at wages lower than before by the 
amount of the required premiums and at these lower 
wages the same number of men would be hired as 
previously and the same volume of goods would be 
produced. 


$4 


Incidence when Insurance is Required in Some Lines 
and Advantages are Not Realized by Workmen 
and when Demand for the Products of 
these Lines ts Inelastic 


We come now to the third case, viz., where the 
insurance is required only in special lines * and where 
the workers so underestimate its advantages, or pay 
so little attention to it, or have previously so little 
realized the peculiar risks to life and limb of the 
industries in question, that it is necessary to pay 
approximately as high wages after compulsory insur- 


1 Or is much heavier in some lines than in others. 


166 THE ECONOMICS OF TAXATION 


ance is established as before in order to keep in these 
industries the former number of workers. ‘This is 
the most difficult case to understand. Yet an analysis 
of it leads inevitably to the conclusion that the pre- 
miums charged for insurance operate to diminish the 
amount of wages received by wage-earners. In this 
case, however, it does not diminish, or at least does 
not diminish by the amount of the premiums paid, 
the wages in the insurance-protected industries. For 
if the workers in these industries previously under- 
estimated the dangers or now underestimate the value 
of the insurance, it is reasonably certain that some 
of them (those who are marginal between these and 
other industries or trades) will not remain in the in- 
surance-protected industries if their wages are made 
lower than before by the amount of the insurance pre- 
miums. The wages plus the newly required premiums 
must be higher than the wages alone were prior to the 

introduction of a compulsory insurance plan. 

Such higher expense for each employee will pre- 
sumably necessitate higher prices for the product.* 


1Jt is admitted, of course, that, as in the case of commodity 
taxes, if production is carried on under conditions of diminishing — 
returns or increasing cost, only part of the burden of the 
premiums is felt in higher prices. Cf. remarks near close of 
chapter. Also, in case the goods are produced by a monopoly and 
in case, at a price higher than the monopoly has been charging, — 
demand becomes much more elastic, perhaps falling almost to — 
zero, the monopoly might bear the loss. See §1 of Chapter IV. 


INCIDENCE OF WORKMEN’S INSURANCE 167 


But the story does not end here. Consumers, as such, 
so far as they are consumers of goods-in-general and 
are not especially disposed to consume the particular 
kinds of goods raised in price by the insurance pre- 
miums, will not suffer. The higher prices of these 
goods will be made up for, to them, by lower prices 
of other goods. For the higher prices of the goods 
produced in such insurance-protected industries must 
‘either diminish demand for these goods or, in case 
‘of an inelastic demand, leave demand approximately 
‘the same. If the latter is the situation, then con- 
‘sumers spend so much more money for these goods 
at the higher prices, that they must either buy less 
of other goods or secure other goods more cheaply.’ 
The inevitable tendency is in the direction of economy 
in the purchase of other goods. These other goods 
must sell either at lower prices or in smaller volume. 
But if they sell in smaller volume, some of the persons 
who would be engaged in their production will be 
partly or wholly idle and their competition for employ- 
ment will tend to bid down wages until they are 











2 The inability of these consumers to pay as high prices as before 
for other goods will not presumably be offset by larger means of 
purchase on the part of the recipients of the high prices (including 
the insurance companies). For these recipients merely get the 
money that the sellers of other goods would else get. There is no 
special reason to expect that more money is spent in the aggre- 
gate; and, therefore, if some prices are higher, others are likely 
to be lower. 


168 THE ECONOMICS OF TAXATION 


occupied and until larger production lowers the prices 
of the goods they produce. Consumers of goods-in- 
general may then be compensated in the fall of these 
prices for the rise of the prices of the goods produced 
in the industries having workers’ compensation. 

But by so much as the amount paid for workers— 
including the insurance premiums—in the industries 
having workers’ insurance is increased because of the 
insurance, by just so much is likely to be decreased, 
in the long run, the amount going to workers in other 
industries. The insurance is, indeed, presumably. for 
the benefit of wage-earners and worth its cost; but 
whether it is worth its cost or not, it is paid for out 
of wages. It is not paid for out of interest or rent. 
Doubtless in the lines in which goods fall in price 
not only will the salable value of the marginal produce 
of labor fall, but likewise the salable value, per unit of 
output,” of the marginal product of land will tend to 


fall. But correspondingly, in the lines where the cost — 


of insurance, coupled with the impossibility of getting 
men to work for less in formal wages because of the 
insurance, makes necessary a rise in the prices of the 


goods turned out, this rise tends to benefit rent-re- 


ceivers by affecting the salable value, per unit of goods, 
of the marginal product of land in the same way in 
which it benefits wage-earners by affecting the salable 


1See remarks near close of this Chapter (VI). 


INCIDENCE OF WORKMEN’S INSURANCE 169 


value of the marginal product of labor. If, then, some 
landowners get less rent, others are likely to get more.” 
But while some laborers get less wages, other laborers 
do not get more, except in the sense that they have 
the protection of the insurance and, therefore, the 
compensation in case of injury. The tendency would 
be, of course, in the sort of case we are discussing, 
for the reduced wages in the uninsured lines conse- 
quent on diminished demand, to divert some of the 
laborers into the insured lines, so making the burden 
general on all wage-earners and leaving the relation 
among wages in the various industries and trades about 
the same as before. 

1 Receivers of interest on capital in the various lines of industry 
would temporarily be correspondingly affected. But as capital 
continually wears out and has to be replaced, interest rates in 
different lines tend toward equality. 

2 This does not mean that the prices in question rise more than 
is necessary to cover the premium. But if the rise is barely enough 
to do that in the case of goods produced on no-rent land or on 
the intensive margin, the owner of supramarginal land devoted to 


producing the same goods will have a larger money rent than 
before. 


170 THE ECONOMICS OF TAXATION 


§ 5 


Incidence when Insurance is Required in Some Lines 
and Advantages are Not Realized by Workmen 
and when Demand for the Products of 
These Lines is Elastic 


We have now seen that the higher prices of the 
goods produced in the industries or trades where com- 
pensation is required will, in case demand for the 
goods there produced is inelastic, cause a fall in the 
prices of other goods through the intermediation of 
a decreased demand consequent on a diminished ability 
to purchase them. We have next to see that the 
same result in the prices of other goods may be 
brought about when the demand for the goods which 
have been raised in price is elastic. If the demand 
for these goods is elastic, then the higher prices must 
mean that considerably less of them will be purchased. 
In consequence, fewer persons can find employment 
in the production of them. The unemployable sur- 
plus of workers will then have to seek employment 
in other lines, thus lowering wages in the other lines, 
increasing the supply of other goods, and lowering the 
prices of these other goods. The redistribution of 
labor would tend, of course, to be such as to spread 
the lowering of wages over all lines of industry, leav- 


INCIDENCE OF WORKMEN’S INSURANCE 171 


ing the lines having insurance in about the same 
relation to the others as before. For in the case we 
are assuming, wages in the lines having insurance 
cannot be much lower than before in relation to other 
wages if the lines having insurance are to remain 
supplied—though less supplied than before—with la- 
bor. And if, in these lines in which less labor is 
employed because of the insurance premiums, the mar- 
ginal physical productivity of labor is raised, in other 
lines the marginal physical productivity of labor is 
likely to be somewhat lowered. 

Here, again, it should be clear that the burden of 
the premiums required is not likely to fall in any 
appreciable degree elsewhere than on wages. ‘Thus, 
it is not likely to fall upon rent. In the lines where 
prices fall, the salable value of the marginal product 
of land may fall (if the falling prices are not, for 
landowners, offset by a greater physical marginal pro- 
ductivity of land).1_ But in the lines where prices 
rise, the salable value of the marginal product of land 
may rise (if the rising prices are not offset by a smaller 
physical marginal productivity of land). And if 
higher prices diminish the number of men in some 
lines and so lower there the marginal productivity of 
land (while raising the marginal productivity of labor) ; 
conversely the increased number of men working in 


1 Note remainder of paragraph. 


172 THE ECONOMICS OF TAXATION 


other lines may raise the marginal productivity of 
land in these other lines (while lowering that of labor). 

The conclusion, then, is that the cost of workmen’s 
insurance falls not upon consumers in general nor 
upon interest- nor rent-receivers but upon wage-earn- 
ers. And wage-earners bear this loss in the form 
of lower wages rather than in the form of higher prices 
of goods. There is no intention to deny that work- 
men’s compensation in industries the products of which 
are consumed not at all by wage-earners might be at 
the expense of others than wage-earners. Though 
some prices should rise and other prices fall, yet, if 
wage-earners were consumers only of the goods which 
fell, a decrease in their money wages would be no loss * 
—or not so much loss. Also, there is no intention to 
deny that efficiency may be decreased and output les- 
sened in consequence of the shifting of labor from 
some lines into others, which the requirement of com- 
pensation in some lines might cause. And, finally, it 
is admitted that the diversion of labor may be from 
lines of relatively constant to lines of relatively de- 
creasing returns from land or vice versa, so increasing 
in the one case or decreasing in the other the aggregate 
land rents received. Thus, to illustrate one possibil- 


1 Whether, if such a loss falls in part on interest-receivers, it 
may diminish saving, raise the rate of interest, and eventually 
decrease wages we need not here inquire. 


of 


INCIDENCE OF WORKMEN’S INSURANCE 173 


ity, suppose the industries where compensation is paid 
to be mining industries and suppose that the resulting 
higher prices of the products of mining decrease de- 
mand and cause fewer mines to be operated. If the 
difference between the marginal mines and the better 
ones is very great, the lack of demand for the marginal 
mines may lower royalties or rents in the mining field 
considerably; while the increased labor employed in 
other industries may not correspondingly raise other 
rents. Nevertheless, our general conclusion remains 
unchanged, viz., that the incidence of the charge for 
workers’ insurance, imposed first on employers, is 
likely to rest for the most part on wage-earners, and 
that, other things being equal, it will entirely so rest.* 

No consideration has been given in this chapter to 
the question whether compulsory workmen’s insurance 
might have effects on population which would tend to 
make wages higher or lower in a succeeding genera- 
tion. ‘The incomes of wage-earners are, because of 
the effect on demand for labor of the required pre- 
miums, currently lower, and this might tend to de- 
crease the number of children per family in cases 


1In the case of taxes imposed on selected commodities, the inci- 
dence is different. The taxed commodities rise in price. Other 
commodities fall slightly in price. Money incomes in general—not 
wages alone—tend to be somewhat lower. Similar qualifications 
must be made, however, for cases in which the incident industrial 
changes may increase or decrease rent. 


174 THE ECONOMICS OF TAXATION 


where no injury is suffered by the insured parent. 
On the other hand, the insurance paid in cases of 
accident helps provide for the children of those who 
are injured or killed. In the absence of any clear 
indication that the future supply of labor would be 
less—or greater?—because of compulsory workmen’s 
insurance, it seems preferable to express no opinion. 

Except that possible effects on population are not 
allowed for, the argument of the preceding pages re- 
lates frankly to the long-run situation. There is no 
intention to assert that the adoption of compulsory 
workmen’s insurance must immediately decrease 
wages enough to cover the cost. The point is that 
the premiums required of employers enter as a new 
element into every wage contract, upset whatever con- 
dition of equilibrium between wages and product had 
been previously arrived at, and so affect demand for 
labor and tend toward reduced average wages. 

But to say that the burden of the premium paid 
for workmen’s insurance falls ultimately upon wage- 
earners as such, is not to question the desirability of 
such insurance. Insurance, as is well known, is a pool- 
Ing of risks. All bear a little loss in order that none 
may suffer the extreme loss. The workmen who are 
not injured receive slightly lower wages in order that 
those who are injured—and their families—need not 
be reduced to poverty. 


INCIDENCE OF WORKMEN’S INSURANCE 175 


Furthermore, if such insurance is desirable, it is 
likewise desirable that the initial burden should fall 
upon employers. It would be impracticable to at- 
tempt collection from the sometimes hundreds or thou- 
sands of workers in a single plant. And besides, to 
put the burden initially on employers serves to fix 
responsibility upon them for the safety of the plants 
they control. For if insurance premiums are made 
to depend (as they ought to depend) upon the degree 
of safety maintained in each plant, then each em- 
ployer has a motive for making his own plant as safe 
as possible. While it is true as a general proposition 
that the burden of the insurance premiums tends to 
rest upon wage-earners in lower wages, nevertheless 
the employer who has to pay a higher premium than 
others pay, because of the low degree of safety of his 
plant, cannot on that account get workmen for lower 
wages than his rivals have to pay for the same work;. 
and likewise the employer whose plant has so high 
a degree of safety that his premiums are especially 
low will not, on that account, have to pay wages above 
the level paid by other employers for work of equiva- 
lent quality. 

It will be obvious to the reader that premiums 
charged in the same way to provide for health or, old- 
age insurance will have effects similar to premiums 
charged to provide for insurance against accident, so 


176 THE ECONOMICS OF TAXATION 


far as their incidence is concerned. They too will be 
paid, in the last analysis, by wage-earners, regardless 
of their imposition in whole or in part, initially upon 
employers. Where insurance is provided from public 
funds, the incidence of the burden will depend upon 
the ultimate incidence of the taxes imposed to provide 
these funds. 


§ 6 
Summary 


In concluding this chapter it is perhaps not neces- 
sary to recall in detail the various specific conditions 
considered. In general, a charge on employers for in- 
surance of employees against accident, sickness, old 
age or anything else operates to diminish the amount 
paid directly to employees as wages. ‘This is because 
demand for labor, with an insurance premium added 
to wages, decreases as compared with what this demand 
for labor would be with the same wages directly paid 
and without the premium. Only as the additional ex- 
pense for insurance is offset by decreased wages, can 
demand for labor be as large as it would be in the 
absence of the premium. The cost of the insurance 
may, in certain contingencies, fall on wages-in-general 
rather than on the wages of a specific group of insured 
workmen in an especially dangerous trade. But the 


INCIDENCE OF WORKMEN’S INSURANCE 177 


cost tends to fall either on the particular wages of | 
the insured employees or on wages-in-general. The 
employer whose plant is exceptionally safe and who. 
therefore pays a lower premium than others does not, 
however, have to pay higher wages; nor is an em- 
ployer whose plant is more dangerous than those of 
his competitors able to reduce the wages of his em- 
ployees below the general level so as to impose upon 
them the additional cost of the higher insurance charge. 


CHAPTER VII 


THE INCIDENCE OF TAXES ON CAPITAL AND 
THE INCOME FROM CAPITAL 


Si 


The Incidence of Taxes on Capital Used in Some as 
Distinguished from All Industries 


TEE 

Taxes may be levied on capital in general or they 
may be levied on capital discriminatingly. If they are 
\ levied on capital discriminatingly, then they either rest 
exclusively on some capital or the rate at which some 
capital is taxed is higher than the general rate. The 
problem which we have now to consider is whether 
a special tax on capital used in some—but not in all 

—industries is shiftable and, if shiftable, upon what 
\ pereones. class or classes it is shifted. The shifting 
“will prove not to be quite the same—if it is at all 
the same—as in the case of taxation of commodities. 
‘A tax on commodities, as such, rests largely on the 
consumers of such commodities. But we shall see that 
a tax on producers not according to output but accord- 
ing to amount of capital, would not rest on consumers 
| as such, although it might cause the prices of certain 


-—geeds_to rise. 


— 


ei 


eel 


{ 
} 
i 
i 
i 
t 





178 


INCIDENCE OF TAXES ON CAPITAL 179 


It may be pointed out, to begin with, that a tax 
on the capital used in some industries may, for a time, 
involve no shifting at all. For in order that the tax 
may be shifted it must have a tendency to limit sup- 
ply and a tax on the capital used in one or several 
industries may not, during a considerable period, ap- 
preciably limit the supply of capital in such industry 


or industries. Much of invested capital is so highly ‘t 


specialized that it cannot advantageously be used in 
any other way—e.g., the roadbed, tracks, engines and 
cars of a railroad—and is so durable that it-needs to 
be replaced only at long intervals. Highly speciali 
and durable capital is not for the time being marginal 
between its present use and any other. If practically 
all of the taxed capital is of this sort, the tax may, 
for a while, divert no capital or almost none into other 
lines, may limit supply of capital and supply of goods 
in the taxed line almost not at all, and may so fail 
to raise the prices of the products of the industry (or 
industries) taxed or to reimburse the owners of the 
taxed capital by higher earnings. 

But much capital can be turned from one industry 
to another with comparatively little loss. Thus, the 
first floor of a corner building near a residence section 
may be equally useful as a pharmacy or as a grocery 
store. The first floor of a building in a business sec- 
tion may be about equally useful as a furnishing, dry 


am 


eal 
ee uinenl 


180 THE ECONOMICS OF TAXATION 


goods, or grocery store, meat market or restaurant. 
Likewise, some factories can, with not excessive 
changes, be adapted to the production of other goods 
than those to the production of which they are now 
directed. Where such diversion can be made easily 
and quickly, there may be immediate shifting of the 
kind of tax in question. 

In the long run, a tax on capital in special.fields,.... 
which does not apply to capital generally, is certain 
to be shifted. For capital wears out and has tobe 
replaced. And a tax on capital in any special line 
will, therefore, in the long run, diminish the amount 
of capital invested in that line by causing deprecia- 
tion or investment funds to be invested in other lines 
by preference. This will raise the marginal physical 
productivity of capital in the taxed line.* It will 
deprive labor in that line of part of its equipment, 
will so reduce the physical productivity of labor (and 
of land), and may cause a decrease of labor (and 
land) devoted to such production. In any case, the 
supply of goods of the kind or kinds in question will 
be decreased and their prices will tend upward. 

In a growing community another circumstance tends 
to the same result. There is a constantly increasing 
need for goods-in-general and, probably, for the goods 


1Cf. Clark, The Distribution of Wealth, New York (Mac- 
millan), 1900, pp. 282-287. 


INCIDENCE OF TAXES ON CAPITAL 181 


produced by the use of the taxed capital. There is 
a requirement, therefore, that the amount of capital 
devoted to such production shall be absolutely in- 
creased. Not only must old instruments be replaced 
but additional ones must be forthcoming. This, how- 
ever, the tax will tend to prevent. New capital will 
prefer other industries unless and until the demand 
for the goods of the taxed industries makes the use 
of capital in them as profitable, in spite of the tax, as 
elsewhere. Prices of goods in such an industry or 
industries will, therefore, tend upward relatively to 
other prices.* 

Does the burden of such a tax, tl upon the 
consumers of the goods produced by the taxed capital? 
This is the view to which a superficial consideration 
might lead us, but it is not the true one. So far 
as capital is pushed out or kept out of such an in- 
dustry because of the tax, more capital is available 
(assuming the aggregate value of capital not to be 
affected) for other industries. If, therefore, the goods 
produced by the taxed capital are more scarce, the 
goods produced by other capital may be more plenti- 
ful. The rise in some prices may then be offset by 
a slight fall in other prices. If so, the consumers 





1Only a relative price rise is here contended for. Due to 
changes in volume of money or credit or other changes affecting 
the general price level, all prices may rise or fall, although at dif- 
ferent rates. 


182 THE ECONOMICS OF TAXATION 


of the goods which are higher in price are compen- 
sated in large degree for these higher prices in their 
purchases of other goods which are lower in price. 
In a somewhat similar way we might plausibly 
rebut the presumption that laborers in an industry the 
capital of which-was-decreased-by discriminating tax- 
ation would suffer through lower wages or that la- 
borers in general would so suffer (or that owners of 
land would receive smaller rents). It is true that 
laborers in the industry the capital of which is taxed 
tend to be less well supplied with-capital. and to have 
a lower marginal physical productivity.on_account of 
the tax. But in so far as this lower physical pro- 
ductivity is not offset by higher prices of the goods 
produced (as it may be because of diminished output 
due to decrease of capital in the industry), so as to 
give approximately the same wages as before, the 
laborers in question are likely to turn in part to other 
industries. (Land, of course, can be similarly di- 
verted, in many cases, for a like reason.) And since 
into these other industries there is being driven by 
the tax an increased amount of capital, such industries 
can _teceive an increased amount of labor * (and land) 
“a slight”increase of labor in them might Ben siti eat 
—hbecause of the capital forced in—with increased 
marginal labor efficiency. If, then, prices of goods 





INCIDENCE OF TAXES ON CAPITAL 183 


produced in these other industries fall because of 
larger output due to the influx of capital driven into 
them by the tax, the loss will presumably fall on the 
owners of the more strongly competing capital rather 
than upon wage-earners. ia 
The conclusion would seem to be, then, that the 
burden of a tax on some capital is finally (assuming 
that it does not tend to decrease the aggregate vol- 
ume of capital) distributed upon the owners of all 
capital in the taxed community.*. The marginal prod- 
uct of labor in general is not less.2 The demand for 
labor is not reduced. The assumed tax is not on 
commodities and does not rest on consumers. It is not 
on wages and does not rest on wage-earners. It is 
not on land rent and does not rest on landowners. 
It does not rest exclusively on the owners of capital 
in the industry or industries taxed, since capital tends 
to be driven to some extent from such industry or 
industries into others. It does rest on the income 
of capital-in-general including capital in the industries 


1This point was first suggested to the writer by Professor H. 
J. Davenport in the spring of 1916. It was set forth in an article 
by T. S. Adams on “Tax Exemption through Tax Capitalization” 
in the American Economic Review, June, 1916, p. 278, and in an 
article in the March, 1917, number of the same magazine by Daven- 
port entitled “Theoretical Issues in the Single Tax” (pp. 26-28, 
footnote). 

2 Except as some redistribution—if there is any such—may af- 
fect efficiency. . 


184 THE ECONOMICS OF TAXATION 


not taxed as well as in the industries taxed. The 
present Federal income tax is not an example of a 
tax on capital alone (or on the income of capital 
alone), since it bears also on income from labor and 
from land. So far, however, as it is a tax on the 
income of capital it is a tax on the income of some 
and not of all capital. It does not apply to income 
from the bonds of our state governments and of the 
various counties, towns and cities within the states 
nor to the income from bonds issued under the Fed- 
eral Farm Loan Act.. So far as the income tax 
causes investment in such “tax-exempt securities” 
rather than elsewhere and thus enables states, counties, 
towns, cities and farmers to borrow at lower interest 
rates while making the securing of capital for other 
corporations, persons and businesses more difficult, 
the result illustrates the tendency of a tax on some 
capital to affect the rate of return on other capital. 


§2 
The Incidence of Taxes on Capital in General 


y” Wevhave said that the burden of a tax on capital 
/ in some uses tends thus to be spread out among the 
owners of all capital if and so far as the tax has no 
tendency to affect the total amount of capital accu- 
mulated. In this regard it is similar to a tax on all 


a 


es 
es 


———— 


INCIDENCE OF TAXES ON CAPITAL 185 


capital, and the question whether it can be shifted 
upon other classes than owners of capital or not is 
similar to the question whether or not a tax on all — 
capital can be so shifted. To that problem,.therefore, — 
we will now address ourselves. ; 

What, then, is the incidence of a tax on all capital 
or its income? Does the burden of such a tax neces- 
sarily rest upon capital owners under any conditions 
whatever, or may it rest on landowners and laborers? 
May it, under any circumstances, raise prices to con- 
sumers? Where the burden of such a tax will rest 
depends entirely upon what effect it does or does not 
have on the supply of capital. A tax may affect the 
supply of capital in two ways. It may affect the dis- 
tribution of capital between the taxing jurisdiction 
and others. Or it may affect the total volume of sav- | 
ing. It may conceivably affect the volume of capital 
within the taxing country while yet not appreciably 
affecting saving, either by preventing (or decreasing) 
the importation of capital into the capital-taxing coun- 
try or by inducing capital-owning citizens of the taxing 
country to invest their capital abroad. The latter 
result is, however, relatively unlikely to occur, since 
the taxing country may try with more or less success 
to tax the income from the property of its citizens 
wherever situated. 

As to whether a tax which, at the start, diminishes 


186 THE ECONOMICS OF TAXATION 


the average net returns on capital, will affect the total 
amount of capital brought into existence, this is really 
the same question as whether a lower rate of interest 
would result in less saving than a higher rate. We 
should not hastily conclude if and because there are 
some who will not save except at a high interest that 
high interest has, in general, the result of stimulating 
saving. That it does have this result has commonly 
been assumed by economists and is not here denied, 
but the certainty of its doing so is nevertheless to 
be questioned. ‘There are undoubtedly some persons 
who would save more at a rather low rate of return 
on capital than at a somewhat higher rate.* Let us 
consider the case of a man who wishes to leave to 
his descendants an income of $5,000 a year, which, 
in his view, will be sufficient for their needs. If inter- 
est is 10 per cent., an accumulated capital of $50,000 
will. be sufficient for his purpose. But if interest is © 
5 per cent., it will be necessary for him to save 
$100,000 in order to leave the desired income to his 
family without the necessity of their at any time © 
trenching on the capital.” He might actually save 


1 See Cassell, The Nature and Necessity of Interest, London 
(Macmillan), 1903, pp. 146-148. ) 
‘ 2Tt should be unnecessary to point out that, even if this attitude — 
were general, there would be a limit to the amount actually saved, 
and a rate of interest would result dependent upon the relation — 
between the advantages of the use of capital and the disposition — 





INCIDENCE OF TAXES ON CAPITAL 187 


$70,000 and have to expect some using up, by his 
family, of the saved funds. 

That more saving would result or that as much 
saving would result from lower interest as from higher 
seems, however, not probable. In the first place, it is 
fairly likely that a person who would save $100,000 
when interest was 5 per cent., in order that his family 
might have a $5,000 income, would save more than 
$50,000 if interest were 10 per cent., considering the 
extra income which his family might thus secure as 
more than compensating the smaller relative sacrifice. 
Reversing the form of statement, we may say that 
few persons probably would, because of a lower in- 
terest rate, save an enough larger sum to yield the 
same annual income as they would expect to provide 
if the rate of interest were higher. There is, indeed, 
reason to doubt whether the average person would 
save as much in expectation of low interest as if there 
were prospects of large gains from the saving. Saving 
for old age and the saving which is done through life 
insurance companies, would yield less return on the 
same investment. But let us consider the usually 
larger savings of those who endeavor to provide for 
their families permanent funded incomes. Would this 


(or lack of disposition) to save. Though the supply curve of 
capital or waiting should slope backward, there would still, pre- 
sumably, be some point of intersection with the demand curve, at 
which point interest would be determined. 


188 THE ECONOMICS OF TAXATION 


type of saving not be discouraged? If we assume 
as an extreme limit a zero rate of interest, we have 
an hypothesis of a condition under which no return 
would be yielded on anything less than an infinite 
sum saved.t With no funded income within the 
realm of the attainable, might not some who now save 
large amounts, give up the idea of funded family 
fortunes, and live for the pleasures of each passing 
day? And in lesser degree might not a very low re- 
turn, say 1 per cent., have a corresponding kind of 
effect? 

In the second place, the possibility of interest be- 
ing realized carries with it a sort of selection. Those 
who have the disposition to save soon find themselves 
realizing interest on their savings and thereby ac- 
quire additional ability to save. The higher interest 
becomes, the more saving can be done by those who 
wish to save, and this fact suggests the likelihood 
of greater aggregate saving at higher interest than 
at lower.’ 


1 Mathematical processes give zero times infinity as inde- 
terminate. 

2 Some one may reply that a higher interest means less capital, 
a lower productivity and hence lower wages, with decreased saving 
power of wage-earners, even of wage-earners who are most am- 
bitious to save. But such an argument would entirely miss the 
point. The discussion above in the text has to do with the effect 
of interest on saving and calls attention to the fact that, other 
things equal, higher interest means more saving in so far as it 


INCIDENCE OF TAXES ON CAPITAL 189 


The problem seems insoluble, however, with our 
present data. It may well be true, as economists have 
commonly supposed, that, on the whole, considerable 
reductions in net interest to capital owners, such as 
might be the consequence of taxing capital heavily, 
tend to decrease saving and so to give the use of 
capital a scarcity value and raise interest rates. If 
so, a large part of the tax on capital would be shifted 
in higher interest rates for the use of capital, so leav- 
ing lower net returns to capital users, including la- 
borers. 

But if, as some argue—and to refute them con- 
clusively with our present data would be difficult,—the 
amount of saving done would be the same or greater 
under the condition of a lower net return on saving, 
the burden of the tax would have a different incidence. 
Such a tax on capital, or on the income from capital, 
would then clearly fall upon the owners of the capital 
taxed. For their net per cent. return on their capital 


may add to the saving power of those who have the saving dis- 
position. The criticism in question—if made—approaches the re- 
lations discussed, not from the direction of the effect of interest 
on saving, but from the direction of the effect of saving on 
interest. It assumes that the high interest which is, in the text, 
spoken of as probably a cause of saving, is « result of a lack of 
saving and therefore lack of capital; whereas for the problem 
under discussion, the high interest which stimulates saving must 
be held to result from inventions or some other interest-raising 
cause not connected with a dearth of saving. 


190 THE ECONOMICS OF TAXATION 


would be reduced by the entire amount of the tax 
charge. 

We may conclude, then, that a tax which reduces 
the net returns from the ownership of capital as such, 
might so affect accumulation as to make the supply 
of capital less, its marginal productivity greater and 
gross interest higher, so throwing the burden of the 
tax, in the long run, partly upon others than the 
owners of the capital. But we must also conclude 
that of this there is no certainty. For so far at least 
as the writer knows, there has never been presented 
a rigid proof that savings in a modern community 
would be less at (say) two or three per cent. net re- 
turn a year than at six or eight. The belief that 
such is the case depends upon a generalization as to 
human nature which knows too many exceptions to 
be reliable without a fuller count than has yet been 
made or can easily be made. The very persons who 
assert and believe that they would do less saving 
if interest were lower may not, as a matter of fact, 
be judging themselves rightly. Perhaps the very most 
we can say is that there seems to be some probability 
that a tax which very seriously decreased the net re- 
turns to owners of accumulated capital would operate — 
adversely to capital accumulation and might so be 
partly shifted upon some other class or classes than 
capital owners, in the very long run. | 


4 
i, 


a 


INCIDENCE OF TAXES ON CAPITAL _ Iort 


Although we do not have, in the United States or 
in other modern countries, any tax applicable to all 
capital or to the income from all capital and not to 
anything else, we do have taxes levied on capital or 
its income along with other property or other income. 
Thus, the familiar general property tax of American 
states and cities is levied upon both land and capital. 
And the Federal income tax (as well as the income 
taxes of various states) is levied at the same time 
on incomes from labor, land and capital. It would 
seem to be entirely legitimate, however, to isolate, in 
thought, that part of a property or an income tax 
which rests upon capital, for purposes of analysis. 
And only by doing so can we determine what are likely 
to be the effects and what is likely to be the incidence 
of that part of such a tax. When, therefore, in the 
succeeding discussion, reference is made to a tax or 
taxes on capital-in-general or on the income from 
capital-in-general, it is to be understood that the argu- 
ment applies, not only to taxes which touch nothing 
other than capital but, equally, to that part of more 
general taxes which rests on capital. 

In case a tax on capital is shifted, upon whom does 
the burden fall and how does shifting take place? 
To assert that the burden falls upon consumers would 
be inaccurate. Prices of goods may or may not rise, 
depending on the relation of the quantity of goods 


192 THE ECONOMICS OF TAXATION 


produced to the quantity of money and credit A 
tax which diminishes the amount of capital will tend, 
it is true, to diminish the efficiency of goods production 
and so to decrease the supply of goods. But it may 
also tend to diminish the efficiency of gold production 
and so to diminish the volume of money. At any 
rate, whether general prices rise or not, something 
more of analysis is required to determine upon what 
classes the burden of such a tax on capital is chiefly 
shifted—unless it could be established that the tax 
tended to make all commodity prices rise and all 
money incomes fall, as in the case of a general com- 
modity or sales tax. In that case, the tax could be 
shown to rest on all consumers without distinction 
as to whether they were landowners, capitalists or 
laborers. In proportion, however, as a tax on capital, 
by diminishing the net income of capital, discourages 
capital accumulation, the owners of capital shift its 
burden upon other classes. Whatever, in the case, 
may happen to the general level of prices, the mar- 
ginal productivity of capital and hence the interest on 
capital (including the part collected as tax) rises rel- 
atively to the marginal productivity of labor and 


1 Business confidence with the tendency to spend readily or 
hesitatingly is of course to be taken into account. 
2See Chapter III. 





INCIDENCE OF TAXES ON CAPITAL 1093 


wages and relatively to the marginal productivity of 
land and economic rent. The tax then tends to be 
shifted, to some extent, upon workers and _land- 
owners. 

If the bearing of a part of this burden, by workers, 
in the form of lower real wages (i.e., reckoning goods 
and not merely money) tends to reduce population 
and so to make the supply of labor smaller, real 
wages tend upward and the tax falls in relatively 
larger proportion upon the owners of land. The de- 
mand for land is reduced. Land formerly yielding 
low rent comes to be marginal or no-rent land. Land 
which yielded high rent yields less. On the assump- 
tions here made as to the effect of taxing capital on 
capital accumulation and as to the effect of a burden 
on wages upon population, we should arrive at some- 
thing like the physiocratic doctrine that all taxes must 
finally fall upon the owners of land, in the form of 
diminished rent. But we should need to include among 
landowners the owners of urban and other non-agri- 
cultural land, whose status the physiocratic theory 
seems to have overlooked. And, also, we should need 
to distinguish between such indirect taxation of land, 
which would fall upon all owners of land, taking 
all their rent from the owners of near-marginal land 
while only taking a small proportion of their rent 


194 THE ECONOMICS OF TAXATION 


from the owners of superior land, and a direct tax 
upon land rent, which would take the same per cent. 
from the rental yield of all land. 

Even if, however, the tax is levied not on all capital 
but only on special kinds of capital, it may still con- 
ceivably be shifted in part upon the owners of land. 
For it may be levied upon capital the construction or 
use of which requires a large amount of land and fail 
to be levied on capital the construction and use of 
which requires only a small amount of land. To dis- 
courage construction of the former kind of capital 
will tend to decrease the demand for land even although 
the total amount of construction is not at all affected. 
For it will cause the construction of capital which 
does not require the use of much land as distinguished 
from the construction of the taxed capital which re- 
quires more land; and so the tax will operate in the 
direction of reducing the rental yield of land. But 
unless the taxed capital is of such a sort that it re- 
quires a larger use of land than the exempt capital, 
no such effect will be produced. It is true that the 
decreased construction of the taxed capital may cause 
a smaller demand for the land which would be used 
in conjunction with it. But the increased construc- 
tion of other capital into which investment is driven 
by the tax will tend to cause an increase of demand 
for some other land. 


INCIDENCE OF TAXES ON CAPITAL 195 


We may, perhaps, with advantage, illustrate the 
problem by reference to the possible effects of a tax 
on houses—or even on buildings in general. A suffi- 
ciently high tax on houses would, undoubtedly, cause 
smaller and fewer houses to be built. House rents 
would rise and people would economize in house ac- 
commodation. In some cases families would occupy 
smaller or less well-constructed houses. In other 
cases a larger number of persons or families would 
occupy a single building of a given size. The de- 
mand for land for residence purposes would, there- 
fore, decrease, and the rental and salable value of 
land in residence sections not practically utilizable 
for other purposes would fall. But this does not nec- 
essarily mean that land rent in general would fall. 
For we have to reckon with the effect of the tax on 
the construction of other kinds of capital and the 
consequent demand for land on which to use it. 
Fewer houses would be constructed but—if diminished 
returns did not discourage capital accumulation in 
general—more capital of other kinds would be brought 
_ into existence. This other capital might be buildings 
other than dwellings and might create an additional 
demand for business sites. Or it might be—especially 
if the tax applied to all buildings—farm machinery, 
etc., the use of which requires land of other sorts. 
In that case, it probably could not be said with truth 


196 THE ECONOMICS OF TAXATION 


that the tax diminished the demand for land. A tax 
on special kinds of capital, if it is to be shifted partly 
upon the recipients of land rent, even though accu- 
mulation is not decreased, must cause the construction 
of capital using relatively little land instead of the 
construction of capital using relatively much land. 
And no considerable effect of this sort is to be ex- 
pected. 

Modern income taxes are frequently progressive. 
Thus, in the United States, the Federal income tax is 
a progressive tax. It has been until recently, however, 
levied on incomes from labor, incomes from capital and 
incomes from land without distinction. There is now 
a limited difference in favor of incomes from labor 
up to $10,000 a year. In this chapter we are chiefly 
interested in that part of the income tax which falls 
upon the incomes-from capital. For the purposes of 
the present discussion we must isolate that part of the 
tax, in thought, from the rest. 

So far as an income tax applies to the income from 
capital it may, as we have seen, discourage saving 
by diminishing the reward of saving. But does a high 
tax rate on large incomes from capital weaken the 
motive to saving so greatly as would a corresponding 
rate on smaller incomes from capital? Very likely 
not. It is easier to save from the larger income— 
certainly unless tastes and habits have become ad- 


INCIDENCE OF TAXES ON CAPITAL 197 


justed to it—than from the smaller. If the larger 
income is being enjoyed by a person who himself ac- 
cumulated the capital which yields it, rather than by 
a person who has inherited this capital, the chances 
are good that the habit of saving was acquired during 
the early years of the accumulation of the capital and 
will not disappear. It is perhaps in the early stages 
of saving and when the amounts saved are still small 
that the inducement of interest is most essential. Sav- 
ing is then not so easy as later but involves consider- 
able incident deprivation. The hope of rapid increase 
of wealth, through interest, dividends or the like, until 
a fair competence can be accumulated, may then be, 
in many cases, a motive without which saving would 
not be done. In other words, a larger proportionate 
gain from saving may frequently be required to in- 
duce saving by a person who has little or no capital 
and a relatively small income than to keep the same 
individual saving if and when he has acquired a com- 
petence and has a relatively large income. 

There may be persons who would be affected dif- 
ferently. Perhaps some who would save eagerly, to 
get a start in life, even although likely to be heavily 
taxed on the yield of such saving, would require a 
greater inducement for further saving when they had 
already saved what seemed to them sufficient. Yet, 
all things considered, it seems a not unreasonable con- 


198 THE ECONOMICS OF TAXATION 


clusion that a graduated tax on incomes from capital 
probably tends to discourage saving less than would 
a proportional tax levied at a high enough rate to 
yield an equal total revenue. 


§ 3 
The Ability Theory of Taxation 


The emphasis in the above discussion, as through- 
out most of this book, has been upon possible effects 
of various taxes, on human actions. Do certain taxes 
tend to drive people out of one line of production into 
another? Do such taxes tend to make goods of any 
kind more scarce? Do other taxes tend to discourage 
saving, reduce the material equipment of industry, 
and raise interest? 

There is, however, on the part of many writers, 
an emphasis upon the subjective effects of taxes. How 
do the taxes which he must pay affect the mind of the 
tax payer? How great is the sacrifice? How much 
more is the sacrifice of utility when a given amount 
is taken in taxation from the recipient of a small in- ~ 
come than when a like amount is taken from the re- 
cipient of a large income? It is such considerations 
as these which are largely in the minds of the advo- 
cates of “taxation according to ability.” 

The expression “taxation according to ability” is 


INCIDENCE OF TAXES ON CAPITAL 199 


Somewhat vague except in so far as it refers to the 
obvious fact that persons who have no margin above 
the bare necessaries of existence have no ability to 
pay taxes. Somewhat more definite is the concept 
of “equal sacrifice.” It is urged that taxes should be 
so levied as to impose an “equal” amount of “‘sacri- 
fice” on all tax payers. There is, of course, recogni- 
tion of the fact that no one can tell what equal sac- 
rifices are. The loss of a part of his income by a 
person of certain definite tastes and habits, may be 
felt far more keenly than a similar loss by another 
person of different temperament. But the view held 
is that, in general, the utility of wealth to an owner 
of it—or of income to a recipient—varies inversely 
with the amount he has, perhaps decreasing in even 
greater ratio than his wealth increases. Therefore it 
is argued that a large tax drawn from the well-to-do 
involves no greater sacrifice than a small tax levied 
on the comparatively poor. And the advocates of 
progressive taxation, when they profess also belief 
in the theory of equal sacrifice, contend that in order 
to make sacrifice equal, taxation on the larger incomes 
must be at a higher rate than on the smaller, due 
allowance being made, also, for dependent children. 

If we proceed further in the same direction we 
come to the theory of least sacrifice. By this theory, 
all taxes would fall on the well-to-do unless or until 


200 THE ECONOMICS OF TAXATION 


their net incomes were reduced to the level of the 
incomes of others. Thus, suppose two persons, A and 
B, the former having an annual income of $10,000 
and the latter an income of $1,000 and suppose the 
sum which the state was to raise from both of them 
to be $1,100. In order that the total sacrifice should 
be the least possible, A would have to contribute the * 
entire amount. For suppose that A had already paid 
$1,050 and the question arose who was to pay the 
next $50! Or suppose, even, that A had already paid 
$1,095 and the question was asked who should pay the 
next $5! Obviously, it would have to be A. For as 
A’s remaining income after paying $1,095 is still 
larger than B’s entire income, A would suffer less 
from paying an additional tax of $5 than B would 
suffer from paying a like amount. Carrying the argu- 
ment a step further, it might plausibly be contended! 
that aggregate well-being would be increased by tax-’ 
ing the rich to provide for the poor, up to such a point ' 
that all wealth was distributed equally or according , 
to need. 

If men received their incomes without effort or 
saving, so that there would be no discouragement to 
either from the denial of a proportionate reward and 
if there were no possible danger of over-population 
or of multiplication of the unfit from proportioning 
family incomes to family need, then perhaps wealth and 


pe a 


- 


INCIDENCE OF TAXES ON CAPITAL 201 


income should be apportioned on the principle of 
maximizing utilities. As it is, to maximize utilities in 
the present would very likely not conduce to their max- 
imization in the long run. 

As to whether the principle of equal sacrifice should 
be largely considered in framing tax laws or as to 
whether any degree of compromise between it and 
the principle of least sacrifice might be desirable, or 
as to whether taxation should be so levied as to in- 
terfere as little as possible with the proportioning of 
incomes to efficiency and to services rendered, no opin- 
ion is here expressed. 


§ 4 
Possible Net Loss to Community from Tax on Capital 


If, in consequence of a tax on capital or on the 
income from capital, accumulation is discouraged, the 
loss to the people of the taxing country is greater than 
the gain in revenue to the government. For the peo- 
ple lose the benefit from the use of the capital which 
might have been accumulated but which, because of 
the tax, has not been; while from this might-have- 
been capital the government gets no revenue. 


203 THE ECONOMICS OF TAXATION 


$5 
The Incidence of Taxes on “Excess Profits” 


The so-called excess profits tax is in effect, if not 
technically, a tax on capital or its interest. It does not 
apply to all capital but only to capital yielding in 
excess of what is regarded as a “‘normal”’ or ‘“‘reason- 
able” return or “profit.” The word “profit” is used 
by many economists to mean a return to self-directed 
labor—to the entrepreneur or enterpriser as such. 
But the sense in which it was used in the Federal 
excess profits tax law of 1919 was different. It meant, 
there, a per cent. return on invested capital. And 
the tax applied to any excess of net returns, in the 
case of corporations, above $3,000 plus 8 per cent. 
of invested capital. The returns received by stock- 
holders of a corporation are not perhaps to be re- 
garded as entirely income from property. In part 
they represent income from the labor of direction as 
such. For stockholders—at least those who are active 


in exercising control and direction—are entrepreneurs ~ 


or enterprisers as well as capitalists. Also, the in- 
comes received by them are partly land rent as well 
as capital interest. Nevertheless, the incidence of ex- 
cess profits taxes may as well be discussed here as else- 
where. Are such taxes shifted and, if so, upon whom? 


INCIDENCE OF TAXES ON CAPITAL 203 


If there is shifting in the case of the excess profits 
_ tax it must be, as in other cases of shifting, because 
- the tax tends to affect supply. There are three pos- 
sible reasons why an excess profits tax may affect 
the supply of goods or capital. Let us consider them 
in order. 

In the first place such a tax may somewhat retard 
the distribution of capital to different industries which 
would otherwise take place. An industry may be ex- 
ceptionally profitable because it is temporarily rela- 
tively undersupplied with capital (or land). The rel- 
ative scarcity of capital (and, perhaps, of land) in 
the industry makes the returns high on what capital 
_ (and, perhaps, what land) there is invested in it. But 
these high returns tempt others to invest their capital 
(and land, together with, perhaps, their active inter- 
est) in this line with resulting increase of competition 
until the prices of the goods produced in the industry 
fall and the returns to the owners of capital (and 
land) in it decrease and become as low as the returns 
yielded in other lines. An excess profits tax makes 
the high returns of such an exceptionally profitable 
industry at once less high in relation to the returns 
in other industries. It, therefore, lessens the induce- 
ment to invest capital in the profitable line. The 
readjustment in proportionate capital investment is 
slower. The returns in the highly profitable indus- 


204 THE ECONOMICS OF TAXATION 


try remain for a longer time abnormally large—al- 
though taxed—and the prices of goods produced in 
that industry remain high longer than would else 
be the case. On the other hand, the returns to capital 
in the other lines from which capital might be quickly 
drawn tend to remain lower and prices of goods pro- 
duced in those lines tend to remain lower for a some- 
what longer time. The effects which thus tend to be 
produced on returns and prices in these other lines are, 
of course, not likely to be noticeable since they spread 
over so many industries and goods. 

In the second place, a tax on excess profits tends 
to discriminate against the risky industries—the in- 
dustries of irregular returns. To levy a high tax on 
all returns in excess of 8 per cent. is not to burden 
at all a stable industry which regularly earns only 
8 per cent. It is to burden only slightly an industry 
which regularly earns ro per cent. But it is to burden 
very considerably an industry which earns 24 or 30 
per cent. once in about three years and the rest of 
the time nothing. Though the returns average no 
more in such an industry than in the case of the 
stable industry, a larger proportion of them are “ex- 
cess” returns and more tax has to be paid. There is 
a tendency, therefore, for an excess profits tax to dis- 
courage the investment of capital in the risky indus- 
tries or industries of irregular returns, to keep more 


INCIDENCE OF TAXES ON CAPITAL — 205 


capital invested in the more stable industries and to 
keep the goods produced in the risky industries rela- 
tively high in price. 

In the third place, a tax on excess profits, since it 
tends to reduce average net returns from capital 
(though it falls partly on other income, e.g., income 
from land), may possibly operate to diminish accu- 
mulation. If and so far as it tends to do this, it of 
course makes the amount of capital smaller, raises. 
the marginal productivity of capital, and tends so 
to increase average net returns. In that case the tax 
burden falls ultimately, in large part, on wages or 
land rent or both. In short, a tax on so-called excess 
profits may operate, in this regard, somewhat as a 
general tax on capital may operate, viz., to decrease 
accumulation. But in the case of taxes on excess 
profits, as in the other case, we cannot predict such 
a result with certainty. 

We must not too hastily conclude, however, that 
taxes on excess profits are always liable to some shift- 
ing. For when the excess returns are due to monopoly 
no tax, however large, on the excess over normal 
competitive returns can possibly be shifted. We are 
here back to our old problem concerning the incidence 
of taxes on net monopoly profits." A tax on net mo- 
nopoly profits of course means nothing if there are 


1 See Chapter IV, § 7. 


206 THE ECONOMICS OF TAXATION 


no such profits. And a strict policy of price regula- 
tion or other governmental control or restriction of 
monopoly may leave no such profits to tax. If any 
such policy is practicable there is a sense in which 
the tax is shifted. For the alternative to taxing the 
profits of monopoly is to compel, directly or indirectly, 
lower prices and so leave no monopoly profits to tax. 
To allow the formation of monopolies and to leave 
their prices uncontrolled, in order that monopoly profits 
may be taxed, is, in a sense, to shift the burden of 
taxation upon consumers. But if monopolies are to 
be allowed to exist and if their prices are to be un- 
regulated, taxes on their net profits will not be likely 
to affect their prices. A monopolist will not charge 
higher prices, because of a per cent. tax on profits, 
than he would charge in the absence of a tax, other 
things being equal. For he will in any case, if in- 
fluenced solely by business considerations, aim to 
charge the price yielding the highest net returns, and 
if, before the tax is levied, he has succeeded in charg- 
ing this most profitable price, the tax will not induce 
him to charge more, since a higher price would reduce 
his net returns and, whatever per cent. of such re-— 
turns the tax might be, less would remain after pay- 
ment of it than if the price had not been raised. 

So far as an excess profits tax discriminates against — 
corporations, as did the Federal excess profits tax of | 





INCIDENCE OF TAXES ON CAPITAL ~— 207 


1919 by taxing the earnings of corporations while not 
taxing those of private businesses and partnerships, 
there is some tendency to discourage the corporate 
form of organization even when that is the best and 
most suitable form for the industry in question. | 

In concluding our discussion regarding taxes on 
excess profits, it may be desirable to add a few words 
regarding the possibilities of evasion. Evasion and 
shifting are two entirely different problems. So far 
as a tax is evaded, there is no payment to shift and 
hence there is no shifting; although the difficulties and 
the cost of evasion may possibly affect supply and 
price. An excess profits tax can be evaded, in many 
cases, by the payment of high salaries to officers who 
are also stockholders. There are, then, no profits, 
or relatively small profits, to be taxed. Also, when a 
tax on excess profits is believed to be temporary, it 
is sometimes evaded by paying large amounts cur- 
rently for. advertising. This expenditure brings it 
about that current net returns are small. But the 
policy is followed in the expectation that the advertis- 
ing will build up a reputation for the evading con- 
cern’s goods and so make for larger profits after the 
tax is repealed. Such attempted evasion would be 
usually to little or no purpose if the tax were to be 
permanent, since the future gains from the present ad- 
vertising would, where considerable, be liable to the 


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208 THE ECONOMICS OF TAXATION 


tax equally with present gains. But if, by current 
expenditure for advertising, present gains which would 
be taxable can be converted into future gains which, 
because of repeal of the tax law, are not taxable, such 
expenditure is likely to be common. 


§ 6 
The Incidence of Taxes on Inherited Wealth 


The tendency to levy taxes on bequests and in- 
heritances is growing. Can such taxes be in any way 
shifted? Do they affect, in the last analysis, other 
persons or classes than those upon whom they are 
levied? ‘Taxes on inherited wealth are not, perhaps, 
to be classed, strictly, with taxes on the income from 
capital. They are levied on property as such and 
the rates are frequently so high that payment must 
be made out of property rather than out of current 
income. But the effects of taxing property in this 
way may possibly be enough like the effects of taxing 
the income from capital to justify consideration of 
both in the same chapter. At any rate there seems 
to be no other place where we can discuss the problem 
to better advantage. If all property were like land, 
practically fixed in amount by nature, a tax levied 
at the death of the owners, taking a part of the prop- 
erty of each deceased person for the state, would not 


INCIDENCE OF TAXES ON CAPITAL 209 


at all diminish the amount of property and such a 
tax could in no way be shifted. But the amount of 
capital (as distinguished from land) which is brought 
into existence depends upon saving, and a considerable 
part of saving is probably done in order that wealth 
may be transmitted by those saving it to descendants 
or to others towards whom affection or obligation is 
felt. Hence, it is possible that the taxation of in- 
heritances and bequests might decrease the amount 
of wealth accumulated by lessening the motive to 
accumulate. If so, there would be a tendency for 
interest to be higher and for the burden of such tax- 
ation to be shifted in part from the owners of capital 
upon others. So far as such a tax did operate to de- 
crease the volume of saving and raise interest rates, 
its burden would be upon laborers or landowners or 
both and not upon owners or inheritors of capital. 
It is partly, perhaps, because of the possibility here 
indicated regarding accumulation that the taxation of 
inherited wealth is frequently made progressive, rest- 
ing lightly both on small estates and on estates trans- 
mitted to persons most closely related to the deceased, 
e.g., direct descendants. In this way, it is generally 
believed, the motive to accumulate will be weakened 
as little as possible and, also, the burden of inherit- 
ance taxation will be least felt. 

Taxes on inherited wealth, if shifted in part because 


« 
‘ 


210 THE ECONOMICS OF TAXATION 


of a resulting higher interest rate, may not clearly 
appear to be shifted because any one person who pays 
such a tax cannot, on that account, charge apprecia- 
bly higher interest on his capital. But in this regard 
the situation is like that arising in the taxation of 
competitively produced goods. The fact that any one 
_ producer pays a tax on his output may not enable 
him to charge more to consumers. But if all pro- 
ducers of a given kind of goods have to pay a tax 
on output and if this tends to decrease the supply 
of the taxed goods, then there result higher prices 
and shifting. Likewise, if inheritance taxation does 
tend to lessen the supply of capital, then we must 
expect, aS a consequence of any such taxation, higher 
interest and shifting. 

There are, in the case of inheritance taxation, some 
possibilities of evasion. Gifts may be made before 
death. Coupon bonds may be placed where they will 
be accessible to heirs, who can claim to have owned 
them from the first. Even though the law endeavors, 
as by making gifts in anticipation of death also tax- 
able, to prevent such evasion, it is doubtful whether 
evasion can be entirely prevented. Nevertheless, the 
now popular policy of taxing inheritances cannot be 
said to be entirely without merit. 


INCIDENCE OF TAXES ON CAPITAL air 


87 
Summary 


As in the case of the taxation of labor incomes, 
so here our conclusions are, in large part, rather con- 
clusions regarding the various forces at work and con- 
sequent possibilities than they are conclusions that one 
or another result absolutely will follow a given tax. 
A tax on capital used for some purposes tends to 
affect, more or less quickly, according to the degree 
of mobility of the capital, the net returns on all 
capital. But whether such a tax, or a tax levied in 
the first instance upon all capital, or a tax on in- 
heritances and bequests, can be shifted eventually in 
any degree upon other classes than capital owners, 
depends upon whether such taxation tends to decrease 
saving and therefore to raise interest. That it has 
actually this effect may seem reasonably probable 
but we cannot, apparently, so conclude with certainty. 
If it does this, the people lose more than the govern- 
ment gains. In the case of an inheritance tax, the 
motive to accumulation is probably not much weak- 
ened if the rate is high only on wealth transmitted to 
distant relatives and to persons not related to the de- 
cedent. Possibly the motive to accumulate is not very 


212 THE ECONOMICS OF TAXATION 


much weakened even by high taxes on estates going 
to direct descendants if the taxes are high only where 
such estates are large. The present tendency is to 
make inheritance taxation progressive according to 
amount and, frequently, according to distance of re- 
lationship. 


CHAPTER VIII 
THE INCIDENCE OF TAXES ON LAND 
Hy 


The Incidence of Taxes on Land used for Specific 
Defined Purposes 


It is a commonplace of taxation theory—although 
it has still to be demonstrated in this book—that a 
tax on land values in general or the economic rent 
of all land cannot be shifted. But a tax on the 
value of land which is used for defined purposes, when 
the tax does not apply to land otherwise used, is capa- 
ble of being shifted. Thus, suppose a tax to be levied 
on all agricultural land used for the production of corn, 
according to the value of such land, but not on agri- 
cultural land used for the production of wheat. In 
that case land which, at the prevailing prices, could 
with almost equal advantage be used for the produc- 
tion of wheat or corn and which had been used for the 
production of corn would be diverted to the produc- 
tion of wheat. In almost any such case there would 
be some land marginal between the taxed use and 
others and the way in which such land was used would 

213 


214 THE ECONOMICS OF TAXATION 


be changed by the tax. This means that—in the terms 
of our example—there would be less corn and a higher 
price of corn, more wheat and other products raised 
instead of corn and a slightly lower price for them. 
It also means that the owner of land who would have 
to pay a higher tax if corn is grown on it will not 
permit a tenant so to use it except on condition of a 
higher rent; while the tenant who can, because of 
the relative scarcity of the corn induced by the tax, 
get a higher price for it, can offer a higher rent for 
the privilege of so using the land. “On the other hand, 
the additional pressure of owners to get their land 
used for wheat or other crops rather than to produce 
the penalized corn, and the lower price of wheat, etc., 
so induced, tend in the direction of slightly lower 

The net result, then, of a tax on the value or rent 
of land used in specific ways, but not on all land, is 
to reduce slightly the rental incomes of all landowners. 
To be sure, the rent of land used for the raising of 
corn may be higher than before so that the owner 
will be no worse off—where the land is marginal be- 
tween this and other uses—than if the land were used 
for (say) the raising of wheat. But the extra com- 
petition of landowners to get their land into wheat 
raising, etc., so as to avoid the tax, lessens the rents 
they can command in these uses. And the rent they 


THE INCIDENCE OF TAXES ON LAND 215 


receive if the land (where marginal between uses) 
is used in corn production, needs not be higher than 
it otherwise would be by the amount of the tax, but 
needs only be higher by the tax than the now lower 
rent it could command in an alternative use. In ef- 
fect, the tax on land used in some way or ways be- 
comes shifted to or spread among the owners of land 
used in all ways. It is not shifted upon consumers. 
For while the goods indirectly discriminated against 
are raised in price by the tax, other goods tend to be 
lowered. Consumers of the former goods may lose. 
But consumers of other goods may gain. If these con- 
sumers are of the same class or are the same per- 
sons, the results may be regarded as canceling. But 
landowners, as such, must and will receive somewhat 
lower net rents. After minor qualifications are made, 
it remains true that the main burden of the tax is 
upon the landowners. 


§ 2 


The Incidence of Taxes on Land Values or Economic 
Rent 


If there remains in the mind of the reader a lin- 
gering doubt as to the truth of the contention that a 
tax on land used for special purposes rests upon all 
landowners rather than upon other classes, this doubt 


216 THE ECONOMICS OF TAXATION 


will perhaps be set at rest by a consideration of the — 
effects of a tax on land-values-in-general. 

The amount of rent which landowners can get for — 
the use of their land is pretty definitely fixed by the 
conditions of demand and supply. A tax on the rental 
value of all land, however used, can neither be shifted 
from one landowner to others nor from landowners 
as a class to any other class. The reasons are that 
such a tax can in no wise limit the supply of land or 
determine the direction of its use. It cannot decrease 
the supply of land because land, as we here define 
it, is not humanly produced. If it were, a tax on it 
might decrease the amount of it and so make rent 
higher. Since the supply of land is not decreased it 
follows that, if landowners who lease their land 
charge higher rents for its use, tenants will endeavor 
to economize in the use of land and some of the owners 
will find their land idle and yielding no revenue. 
These will quickly reduce their rent charges, the more 
so if unused land is taxed at the same rate as used 
land, since only so can they avoid loss. 

We may state the matter convincingly in a some- 
what different way if we call attention to the fact that 
the landowners were presumably, before the tax was 
laid, charging all the rent they could get. There is 
nothing in the tax to make tenants willing to pay 
more or land more difficult to hire. Supposing the tax — 


THE INCIDENCE OF TAXES ON LAND 217 


to apply also to unused land, even more land will 
probably be on the market for hire than would other- 
wise be the case, because of the loss to owners in 
leaving their land idle.t Hence, owners cannot raise 
their rents. 

To put the matter in still another way, it may be 
said that rent is the surplus which can be produced 
by labor and capital above what that labor and cap- 
ital could produce on the poorest land in use—or, also, 
on the intensive margin of production—for which no 
rent is paid and which has either no value or a purely 
speculative value based on prospects. A tax on the 
value of land would not increase this surplus yield 
on the superior land and could not, therefore, increase 
rent. * 

Let us suppose that a tax is levied upon a piece of 
land because of its value, because, that is, of its su- 


1 Even so acute a thinker as Professor H. J. Davenport seems 
to have been led astray on this point. For he contends that 
increased land-value taxation, unless 100 per cent. of the eco- 
nomic rent is taken, actually encourages speculation in land, by 
enabling speculators to purchase land more cheaply. Indeed, Pro- 
fessor Davenport compares land speculation under such circum- 
stances with speculation on the exchanges “on a margin.” (See 
his article, “Theoretical Issues in the Single Tax,” American Eco- 
nomic Review, March, 1917, page 16.) It is true that increased 
land-value taxation makes land cheaper to buy. (See § 3 of this 
chapter.) But this would-not encourage buying for speculation. 
Taxed land would not rise in price in any greater per cent. on 
its cost to the speculator than untaxed land. And the annual 
outlay for holding it out of use would be more. 


218 THE ECONOMICS OF TAXATION 


periority over the poorest land in use and in propor- 
tion to that superiority, and that the owner of the 
land tries, because of the tax, to charge more rent 
to the tenant. In that case the tenant may resort to 
poorer land on which the rent and, therefore, the tax 
is insignificant or zero and leave without rent and 
with his tax nevertheless to be paid, the too grasp- 
ing landowner. Such a prospect or its actual reali- 
zation must cause the owners of land to keep down 
their rent charges and to pay the tax themselves. 
Since a tax on land values—or on land rent, for 
this comes to the same thing *—cannot raise rents, it 
can in no way raise the prices which tenants charge 
for the goods they. produce or sell on the land. But 
can it raise the prices charged by the owners of the 
land for the goods they produce or sell on it when they 
themselves use their land? Clearly not. Such owners © 
will not, because of the tax, produce any less of the 
goods in the production of which they are engaged. 
Refusing to produce the goods would not relieve them 
of the tax. They will produce as many goods as if 
there were no tax. And if the tax does not make > 
such goods any scarcer, their price will not be made 


1 Although the capital value is itself affected by the tax and 
falls as the tax rate rises, while the rental value is relatively inde-— 
pendent of the tax. It is, therefore, simpler to tax economic rent — 
than to tax the capitalized value of land. Indeed, a tax on rent of — 
100 per cent. would reduce capitalized value to zero, 


THE INCIDENCE OF TAXES ON LAND 219 


higher. In other words, if, before the tax is laid, land- 
owners are charging for their goods all they can get, 
the tax will not cause them to charge any more for 
they cannot get any more. 

If, then, we look at the matter of general land-value 
taxation from any point of view whatever, we seem 
to arrive at the same conclusion, viz., that a tax on 
land value or land rent is paid by the owner of land 
and by no one else, that the owner cannot because of 
such a tax raise either his rent or the prices of his 
goods, but that, indeed, productive land held out of 
use by speculators is forced into the market so that, 
if land rent changes at all, the direction of the change 
is likely to be downward.* 

It is, indeed, held by most competent economists 
that, in general, a tax on land values cannot be shifted. 
There are, nevertheless, certain qualifications of this — 


1In case a tax is levied on the occupiers, instead of on the 
owners of land, in proportion to the economic rent or the value 
of the land, the result, in the long run, will be but slightly dif- 
ferent. Demand for land space will tend to decrease. To get 
their land used to the same degree as before the imposition of 
the tax, landowners must reduce their rents to a point such that 
the rent plus the tax is about the same as the rent alone would 
be in the absence of the tax. In other words, the landowners must 
bear the tax. The tax is shifted backward by the tenants. But, 
in case the tax is levied only on occupiers and does not apply to 
vacant land, there is more of an inducement to hold land out of 
use than when owners are taxed on used and unused land alike. 
Hence, the burden on tenants may be slightly greater and the loss 
to owners slightly less than if owners are taxed on all their land. 


220 THE ECONOMICS OF TAXATION 


principle, some of which are generally familiar to 
economists and some of which are ordinarily over- 
looked. The following brief discussion of the prob- 
lem is intended to indicate somewhat the importance 
of these qualifications and their relation to the main 
principle. 

It is commonly admitted by economists that a tax 
on the value of “land” when the so-called land value 
includes fertility put in and to be put in by owners 
may be, in part, shifted. For such a tax may dis- 
courage owners from thus improving their land. They 
may prefer to invest their surplus labor—i.e., their 
labor above that used to provide for current con- 
sumption—in some other way. Hence, less acreage 


may be well fertilized, the supply of goods produced | 


on agricultural land may be smaller and the prices 


of such goods may therefore be somewhat higher. 


Here, however, we are really dealing with capital, 
“the produced means to further production,” * rather 
than with land in the economic sense. The tax, if it 
applies only to capital of this specific kind (fertility), 
will tend to make people construct, rather, capital 


of some other kind. Then the comparative scarcity | 
of this kind of capital may be coincident with a com- | 
parative plenty of other kinds of capital. (And the — 


1 Phrase used by Seager, “The Impatience Theory of Interest,” j 


American Economic Review, December, 1912, p. 846. 


SS Se eee eee ee 





THE INCIDENCE OF TAXES ON LAND 221 


products of such other kinds of capital may be in- 
creased in quantity and lowered in price.) But if the 
tax is applicable to all capital, then there will be no 
special discouragement of land improvement as com- 
pared with other kinds of investment. Whether or 
not such a tax will discourage saving and hence cap- 
ital formation in general, is another matter which 
was considered in the previous chapter and which 
need not be reconsidered here. It seems clear, at any 
rate, that a tax levied upon the value of land exclu- 
sive of any value put into it by an owner’s fertiliza- 
tion, drainage, or other improvement would not be 
likely to operate to prevent or discourage such im- 
provement and so would not probably be shifted.* 
But if a tax on land fertility is really a tax on cap- 
ital value rather than on land value, may this also 
be true, in some cases, of a tax on the situation value 
of land? As an almost invariable rule, the situation 


1The fact that a tax on fertility value can be sometimes 
_ shifted, in whole or in part, to consumers, is due to the dependence 
of such fertility upon the activity of the landowner. Hence, a 
distinction must be made between agriculture and mining. Fer- 
tility is maintained and restored by the effort and investment of 
the farmer. Ore is not restored by the mine owner. A tax on 
farm fertility does not at once raise the prices of farm products. 
It does this only when, in consequence of soil exhaustion, such 
products have become more scarce. Fertility rent may be a 
necessary inducement to efficient agriculture. But in the case of 
mines there is no point to providing an inducement to restore any- 
thing. It is true that a tax might hasten the exploitation of mines. 
But, unless it were so levied as to promote wasteful methods, it 


222 THE ECONOMICS OF TAXATION 


value of a person’s land is but slightly if at all de- 
pendent on his own efforts or investment but is a 
function of natural advantages and of the activities 
of those around him. An acre of land in Manhattan 
may be worth millions of dollars though no owner 
present or past has ever done anything to give it 
value; while the same amount of land in the Rocky 
Mountains or even in the center of the middle western 
plains may be worth much less despite great efforts 
by one or more owners to give it value. One owner 
of land may try in every way conceivable, but with- 
out success, to make the situation value of his land 
great; while another, doing nothing at all, finds his 
land increasing in situation value because those about 
him, aided perhaps by natural conditions, make such 
improvements or develop such businesses that the local- 
ity where their activities are carried on comes to be 
a locality where people desire to settle for business 
would not decrease the total amount of coal or ore mined. Higher 


prices might result in the future because of earlier mine exhaus- 
tion. But, if so, the more active present exploitation of the mines 


would mean lower prices in the present. If the prices of mine . 


products are lower while the tax is on and higher when there is 
no tax because nothing is left to tax, we can hardly say that the 
tax is “shifted” to consumers. As a matter of fact, heavy taxa- 
tion of mines need not at all interfere with conservation of 
mineral resources. If some mines were exploited more rapidly, 
this would tend to delay the exploitation of marginal mines. 
Furthermore, such taxation would tend to keep down the capitalized 
value of mines and to make their purchase by government easier, 
if special conservation measures seemed desirable. 


Se oe 


THE INCIDENCE OF TAXES ON LAND 223 


or residence. If it should become obvious that, on a 
given city lot, a house could be built for $6,000 which 
would then sell, with the lot, for $10,000, the lot 
would at once be worth approximately $4,000 without 
the house. The building of the house does not add 
to the situation value of the land as such. After the 
house is built, there is a greater real estate value by 
the value of the house, but the land, separately con- 
sidered, is worth the same as before. If, however, 
several scores of persons build attractive homes in 
the immediate neighborhood of such a lot, it may come 
to have a higher situation value whether sold with 
or without a building upon it, than it would other- 
wise. Each such builder, while adding to his own 
real estate a value presumably about equivalent to the 
cost (including planning and supervision of construc- 
tion) of his building, may add to the situation value 
of neighboring real estate by making the location more 
attractive to others than before. Thus the unforeseen 
tastes and the consequent building activities of some 
persons may increase the salable value of the land of 
other persons. In like manner, if certain business men 
choose a given block for retail stores, the habit so 
induced in the buying public of going to that locality 
to trade may give value as a store site to a lot not 
purchased or owned by the persons responsible for 
the new state of affairs. 


224 THE ECONOMICS OF TAXATION 


It may, indeed, conceivably, sometimes happen that 
development of real estate owned by a score or more 
of separate persons, which none of them would find 
it worth while to begin independently on his own 
land, would seem worth while to a single owner of 
all the land, or to an association of owners, since the 
development of each lot might add something to what 
he or they—and not persons who had not participated 
—could get from neighboring lots. Thus, a large cor- 
poration may, in effect, found a city and realize a gain 
from the resulting increase in the value of its land, 
as the United States Steel Corporation seems to have 
done, to a considerable extent, in the case of Gary, 
Indiana.* But if there were several persons or cor- 
porations able to finance such a comprehensive im- 
provement and fully aware of the opportunity avail- 
able, then the gain imputable to the improvement 
would be less. For the salable value of the land prior 
to the improvement would be more. For these various 
potential improvers would, each, be willing to offer 
more for the unimproved land, because of their abil- 
ity profitably to improve it, than it would otherwise 
be worth or than it would bring if sold, thus improved, 
in small lots. 

To forestall possible misunderstanding and objec- 


1 See Haig, “The Unearned Increment in Gary,” Political Science 
Quarterly, Vol. XXXII (March, 1917), pp. 80-94. 





THE INCIDENCE OF TAXES ON LAND 225 


tion, it may be well to explain the fact that buildings 
are sometimes constructed (e.g., in large cities) al- 
though the immediate yield on the total investment 
(land and building) is small, in anticipation of a rise 
in rental and capital value. As has been noted above, . 
development through extensive building, etc., may 
sometimes be undertaken in the belief that site values 
as such will thus be increased. But if the increase 
of site values is expected to result rather from the 
general growth of the community—in the main, the 
usual condition—then such building will not be pre- 
vented either by a general tax on site values or by 
a tax on site value increments. Though the imme- 
diate yield on land and building together may seem 
small, the building is constructed because, and only 
because, it is believed that the net yield in excess of 
what would be received were it not constructed is as 
high as the general rate of return on investments of 
equal risk. Otherwise erection of the building would 
be postponed. Certainly an expected increase in site 
value due to the general growth of the community is 
no inducement to the early construction of a building, 
since such site value could be realized by holding for 
later sale, without building. An owner who builds 
now because he does not wish to forego the present 
rental yield of his land is not building to get a future 
increment. And such an owner would be in no less 


226 THE ECONOMICS OF TAXATION 


a hurry to build in order to avoid a present land-value 
tax. Certainly a tax on community-made site value 
would not delay construction of a building, since the 
tax payment to be made by the owner would be as 
great in case he did not build as in case he did. In- 
deed, it is to be noted that the very reason immediate 
returns are low in proportion to total capitalized value 
of land and building is because the prospective future 
high value of the land is capitalized into a high present 
value on which the current rate of return cannot at 
once be realized. If this future increase were to be 
taxed at a high rate and if the fact were generally 
known, the present value of the land would presuma- 
bly be lower. Even with the tax, therefore, the per- 
centage yield on present value would be no less.* 

The writer has frequently heard the argument ad- 
vanced that a prospective increase in the value of their 
land is necessary to keep farmers in their business— 
that without this increment they would not get the 
current rate of return. (Is it equally necessary in 
every business? Without it would every one leave 
his own business and go into another business where, 
also, he could not get it!) In truth, however, were 


1 Various views have been presented by different economists on 
this and related points. A number of these are briefly stated and 
admirably criticized by Professor H. J. Davenport in “Theoretical 
Issues in the Single Tax,’ American Economic Review, March, 
1917. See, especially, pp. 17-24. 


THE INCIDENCE OF TAXES ON LAND 227 


land values taxed, or even were future increments 
taxed, the yield to farmers would be as large a per- 
centage of what their land would then sell for—a 
larger percentage if we assume a corresponding re- 
duction of other taxes—and they would be no less 
inclined to remain in the business, as against selling 
out (to some one who thereupon comes into the busi- 
ness?) or otherwise quitting, than before. 

As a concrete case of improvement where the activi- 
ties of landowners accomplish something toward the 
increase of situation value, let us suppose a group of 
men owning a considerable amount of undeveloped 
land remote from markets and railroad centers. We 
shall suppose, further, that potential traffic to and 
from this territory does not appear large enough to 
pay the ordinary rate of return on the cost of build- 
ing a railroad into the territory (or, perhaps, any re- 
turn whatever) and, hence, that no one is willing to 
build such a road for the promise of earnings upon 
it. Let us assume the probable product of the land 
to be wheat. A railroad into the territory would be 
worth much more to persons cultivating immediately 
adjacent land than to persons farther from the rail- 
road and the former persons could afford to pay higher 
rates than the latter. If rates for the transportation 
of the same kind of freight (in our example, wheat) 
could be made higher for shippers located near the 


228 THE ECONOMICS OF TAXATION 


railroad than for shippers who must bring their wheat 
longer distances by wagon or truck, then, we may sup- 
pose, the railroad could be made to pay. But such 
special rates to different shippers for the same serv- 
ice would be difficult to adjust even if they were not 
illegal. Hence, although the railroad may be worth 
building so far as the owners of the land, as a whole, 
in the given community are concerned, it may not be 
to the advantage of any other persons to build it and 
its building may have to wait upon investment by these 
owners in rough proportion to their anticipation of 
gain from it. In such cases, the building of a railroad 
by these owners corresponds, in a sense, to the fer- 
tilizing of his acres by a farmer or to the building 
of a store on his land by the owner of a city lot. 
It is an improvement on the land, the added value 
being, in large part, represented by the cost of the 
improvement.t If there were a thoroughly competi- 
tive market for the sale of such a large land territory 
as a whole, then its value, before the construction of 
the railroad, would be approximately as great as after, 
except for the cost of construction. (We are here 
assuming that the railroad would just yield running 
expenses and could only be built because of the in- 
creased salable value of the adjacent real estate.) | 


1Cf. Marshall, Principles of Economics, sixth edition, London 
(Macmillan), 1910, p. 444. 


THE INCIDENCE OF TAXES ON LAND 229 


In a sense, therefore, the increased land value must 
really be regarded, in this case, as capital value, as 
being merely equivalent to the cost of the capital put 
into or upon it by the owners. Yet, in practice, prob- 
ably if the land were under a single ownership and 
certainly if it were or came to be owned by different 
persons in separate tracts, these different tracts would 
be separately valued; and the value of any of them, 
though enhanced by the presence of the newly con- 
structed railroad, would seem to be purely situation 
value—as indeed it really would be in the case of any 
such piece of land if neither the present nor a pre- 
vious owner had contributed toward the building of 
the railroad. But to tax this value when it is brought 
into existence through capital construction by the 
owners of the land so improved may operate to pre- 
vent such capital construction and such a tax may 
be, in some degree, shifted. 

On the other hand, the economic consequences of 
such construction may often be unfortunate, so that 
the discouragement of it, by land-value taxation, would 
do no harm. Thus, suppose one very large tract of 
land under a single ownership and control on which, 
therefore, any increased situation value due to the 
construction of (say) a railroad system, will be en- 
joyed by the same persons who have the railroad 
built; while in other parts of the country, land is 


230 THE ECONOMICS OF TAXATION 


separately owned in small tracts and no one person 
is in a position to reap the situation value which might 
result from similar railroad building. Under such 
circumstances population and industry might be largely 
drawn away from the territory held by many small 
owners into the territory controlled by one large 
owner; and they might be so drawn even though the 
latter territory had no natural advantages over the 
former and even though the former, if not thus de- 
nuded of population and business, would soon-be able 
to support a railroad built without the inducement of 
a prospective situation-value increment. It is not an 
unreasonable hypothesis that the building of railroads 
subsidized by the United States government with enor- 
mous grants of land, thus uneconomically and prema- 
turely developed the West at the expense of the de- 
velopment of the East; and this merely because of 
the greater concentration of ownership of large areas 
of western land, first in the hands of the Federal gov- 
ernment and later in the hands, also, of a few rail- 
road companies.* 

It is, of course, impossible to say what per cent. of 
the apparent situation value of land is really, in 


1The agricultural pioneer is said by some economists to have 
had a prospective “unearned increment” as an inducement to settle 
new territory. And it is quite possible that in the absence of such 
inducement, settlement in such territory would have been less 
_rapid. Nevertheless, it by no means follows that the early ap- 


THE INCIDENCE OF TAXES ON LAND 231 


the sense above indicated, capital value. Doubtless 
there are instances of contributions by landowners in 
various towns and cities to the building of electric 
street-railway lines, steam. railroads and other utili- 
ties (through purchases of stocks and bonds or other- 
wise), which contributions they would not be quite 


plication of heavy land-value taxation would, by retarding such 
settlement, have been shifted upon the general public. Would it 
have meant less wheat or corn? But undoubtedly some of those 
who took up western agricultural land in the pioneer days were 
already farmers and merely raised wheat and corn in the West 
instead of in the East. If they could not be induced to go West 
except by the prospect of an increment in land values, can we 
conclude that their labor in the West was much more productive, 
that their going increased the volume of produce and that not to 
have given this encouragement would have made agricultural 
produce more scarce and its price higher? 

Some of the western settlers, however, were persons not previ- 
ously engaged in agriculture. If the offer of land and the pros- 
pect of a rise in the value of this land made them farmers, it 
would in so far increase the volume of wheat, corn, etc., and tend 
to lower their prices. But it would simultaneously decrease the 
volume of whatever other goods or services these people were 
producing and raise the prices of such goods or services. Who 
can say with certainty, therefore, that a tax on land values which 
removed the incentive to such settlement would necessarily have 
been shifted upon consumers of goods, in general, in the form of 
higher prices? 

But would such a tax have been shifted upon wage-earners in 
the form of lower wages? ‘The prospect of enjoying a rise in 
value of land given to settlers by the government is said to have 
depleted the supply of hired labor and kept wages up. (Clark, 
The Distribution of Wealth, pp. 85-86.) This effect, however, 
was only temporary. To-day wages may even be lower because 
of the policy formerly pursued, if, because of it, less land remains 
unappropriated. And it is not certain that a policy of land-value 


232 THE ECONOMICS OF TAXATION 


induced to make merely because of their expectation 
of a return on the utilities as such, from the rates 
charged, but which they are induced to make because 
of their hope of an incident increase in the value of 
their land. They are, as it were, by a common yet 
voluntary * action, improving their land out of sav- 
ings; and a special tax upon the increased value so 
brought into existence might prevent their doing this, 
tend to diminish the supply of the kind of utility or 
capital in question, and, perhaps, necessitate higher 
rates aS an inducement to investors to construct such 
capital. Thus, in so far, such a tax would be shifted. 
It is likely, however, that in the case of a regulated 
monopolistic utility the public would be asked to 
permit rates—if such rates could be charged and 
patronage kept—high enough to yield the usual rate 
of return on investment; and this even if the in- 
vestors had enjoyed an incident increase in the value 
of their land. 


taxation would, even temporarily, have prevented the realization 
of high wages. For while it would have weakened the incentive 
to laborers to take up government land far from the centers of 
population, it would have discouraged speculation in privately 
owned land and so would have increased opportunities near the 
centers of population. Exactly what the net effect would have been 
we cannot, with certainty, determine. But the incident reduction 
of other taxes could hardly fail to be a benefit to wage-earners, 
especially when they were ambitious and saving. (See §§3 and 4 
of this chapter.) 

1 Except as they may act in response to pressure from the local 
commercial club e¢ al. 


THE INCIDENCE OF TAXES ON LAND 233 


In any case, it is probably true for the most part, 
as has been frequently and vigorously contended, that 
the situation value of any given piece of land is due to 
natural conditions, such as the proximity of bays and 
inlets, to the stage of the mechanic and other arts 
which makes one or another location preferable for 
various lines of productive activity, and to the activi- 
ties and groupings of large numbers of people, and 
that what an individual owner decides to do or not 
to do is but an insignificant factor. The conclusion, 
therefore, that a tax on the situation value of land 
cannot be shifted, though it may require some qualifi- 
cation, is, in the main, hardly open to serious ques- 
tion. 

Whether or not it is desirable to take much or all of 
economic rent by taxation, it should be clear that, 
under the competitive individualistic system of busi- 
ness, no other method of preventing the individual 
receipt of economic rent is possible. If, for example, 
when the owner and user of a piece of land were dif- 
ferent persons, the owner could be forbidden to charge 
as rent the surplus, due to advantageous situation, 
yielded by that specific piece of land above the ordi- 
nary returns to labor and capital, the user would pro- 
ceed to appropriate such surplus. For the fact that 
the titular owner was not allowed to charge rent 
would not increase the supply of the goods produced 


234 THE ECONOMICS OF TAXATION 


or marketed on the land, and, since price is fixed by 
demand and supply, would not lower the price of such 
goods. ‘The producer or dealer who was fortunate 
enough to have, for nothing, the use of a piece of 
land so good or so advantageously situated as to give 
him a larger return than would cover his outlays for 
wages and interest (including interest on his own 
capital) and pay for his own time, would not, on that 
account, sell his output below the market price 
charged by competitors. But even if he did, his com- 
petitors need not lower their price, since there has 
been no increase in supply or decrease in demand, and 
since, therefore, the demand on other producers or 
dealers by consumers remaining unsatisfied, will be as 
great as before. So, even if the favored producer does 
lower his price (as it is safe to say he will not), that 
would merely pass the favor to a privileged few of the 
consumers of the article. The price could not be re- 
duced to all consumers unless reduced by all other pro- 
ducers. 

Furthermore, some of these other producers are pro- 
ducing under conditions such that their labor and capi~ 
tal produce little or no surplus for rent; they may be, 
for instance, producing on land so poor for the pur- 
pose that it yields substantially no surplus. For them 


1 Or they may be producing on what economists call the intensive 
margin. 


——- 


THE INCIDENCE OF TAXES ON LAND 235 


to reduce their price would be to curtail their wages 
or interest or both. In that case, the attempt to ter- 
minate rent would result in lessening other kinds of in- 
comes of the producers of the goods in question and 
giving these incomes to the consumers of the goods. 
But these consumers can be no other than the pro- 
ducers of other goods. The injured producers would, 
therefore, under a régime of free choice of industry, 
change their occupations and the line of their invest- 
ment. 

It is perhaps desirable to add an illustration from 
the economics of railroad transportation. Suppose two 
cities to be connected by a railroad which runs through 
a narrow river valley. The traffic is more than this 
line can handle. Another line is essential but the sec- 
ond has to follow a winding and hilly route. The cost 
of carriage of goods on the second road is necessarily 
higher. The first road has an advantage of situation. 
It has an exclusive use of the better route, from which 
it derives a substantial revenue. For it can and will 
charge rates as high as does the winding hilly road and 
will still get plenty of traffic. To require rate reduc- 
tion of the first road will not transfer this excess in- 
come to the general public. For, since this river-valley 
road cannot carry all of the traffic, some shippers, at 
least, must pay rates high enough to make worth while 
the operation of the other railroad. Otherwise it will 


236 THE ECONOMICS OF TAXATION 


be abandoned—or never built. And to reduce rates 
only on the river-valley road is merely to transfer to a 
favored group of shippers, and not to the whole public, 
this road’s revenue from a natural advantage of situa- 
tion and from the growth of the community served. 
The excess income of the river-valley ‘road is situation 
rent. Taxation of rent by the public can be made to 
secure, for the general benefit, as much of this income 
as it is desired to get. Rate regulation cannot. . 


SPH 
Taxation and C apitalization 


A tax on land values or economic rent, like a tax on 
the net profits of a monopoly, cannot be shifted. But 
either tax can be capitalized. What, then, is capitaliza- 
tion and when is a tax capitalized? The process of 
capitalization is a process of giving a present value to a 
prospective income. This process involves an applica- 
tion of the rate of interest. Thus, suppose the rate of 
interest which can ordinarily be realized from an in- 
vestment of capital to be 6 per cent. Then the stock 
of a concern which gave promise of an annual yield of 
$12,000,000 would have a salable value of $200,- 
000,000. Let us suppose the concern in question to be 
a monopoly doing business on an actual original invest- 
ment of $100,000,000 on which a normal competitive 


THE INCIDENCE OF TAXES ON LAND 237 
f 


return would be $6,000,000 a year. The ability to 
charge a monopoly price and reap a supra-normal re- 
turn makes the stock of the monopoly, in this case, 
worth $100,000,000 more than the original investment 
in wealth-producing equipment. Assume, now, a lump 
sum tax (or a proportional tax on monopoly profit) 
taking $4,000,000 of the profit. Then the returns re- 
maining will be only $8,000,000, and the salable value 
of the stock will tend to become $133,333,333-33 1/3: 
For $133,333,333-33 1/3 is that sum of which 
$8,000,000 is 6 per cent., and investors cannot be ex- 
pected to pay much more for stock from which they 
can hope to derive, because of the tax, but $8,000,000 
a year, so long as they can invest their funds other- 
wise with equal security and realize 6 per cent. The 
expected future income of the monopoly is capitalized 
into a present salable value. The prospective taxes 
are capitalized into a subtraction from that value. Or, 
the future net returns expected to remain after payment 
of the taxes are capitalized into a present salable value 
smaller than tus value would be if there were to be no 
taxes. 

A tax on land values, like a tax on net monopoly 
profits, is capitalized. If an increased tax were to be 
levied on land values or land rent, land would decline 
in value because the net rent to its owners would be 
reduced by the tax—a tax which, as we have seen, 


238 THE ECONOMICS OF TAXATION 


cannot be shifted. For the value of land, unlike the 
value of capital, has no relation to its cost of produc- 
tion. Land as we are here defining it (to exclude im- 
provements, which are really capital), has no cost of 
production. Its value can be arrived at only by know- 
ing or estimating its future rent (or surplus yield over 
interest on capital and remuneration for labor), and 
capitalizing this future rent at the market rate of in- 
terest. 

To illustrate, if a piece of land is expected to yield 
$100 a year, for an indefinite future, in excess of the 
wages of the labor and the interest on the capital used 
upon it, and if the market rate of interest is 5 per cent., 
the land will be valued at $2,000. A tax which should 
take each year $75 from the $100 previously left to the 
owner, leaving him a net rent of only $25 a year, would 
reduce the value of the land in as great a proportion, 
ie., to $500. The annual yield to the owner after the 
tax would be as large a percentage as before of the 
price at which his land could be sold. Hence, he would 
have no more motive to sell the land than he had - 
fore and he would continue to do with the land exact 
what he would do with it if there were no tax. 

The fact that a:tax upon land values or economic 
rent is capitalized, thus resulting in lower land prices, 
constitutes one of the principal arguments commonl 
advanced in favor of such a tax. Lower land prices 








THE INCIDENCE OF TAXES ON LAND 239 


tend to make land and home ownership easy for per- 
sons of small means and so are likely to diminish ten- 
ancy. ‘Taken in connection with an incident decrease 
of other taxes, and a possible raising of the marginal 
product of labor and wages through forcing into use 
land speculatively held out of use, land-value taxation 
would not only cheapen land but would leave larger 
than before (because less taxed) the incomes of non- 
owners who might wish to save and to buy land. 

Such a tax, so far as all future purchasers of land 
might be concerned, would be an entirely burdenless 
tax. For the tax would so lower the salable value of 
the land that it could be entirely paid out of the interest 
on the saving in the purchase price. And the reduction 
in other taxes so made possible would involve a clear 
net gain to all future purchasers of land, as well as to 
tenants and laborers. The accumulation of a compe- 
tence by the industrious and ambitious would be in so 
far made easier. A change in taxation policy in the 
direction of taxing the economic rent of land more and 
other incomes and property, as well as commodities, 
less, would have some tendency, then, to protect per- 
sons who through sickness, financial reverses or other- 
wise have been reduced to poverty, or the descendants 
of such persons, against the possibility of falling as 
low in the economic scale as they otherwise might. The 
obstacles to be surmounted in the process of their 


240 THE ECONOMICS OF TAXATION 


economic rehabilitation would be less. Such a change 
would be, therefore, in some degree analogous to the 


abolition of debt slavery and to the establishment of 


bankruptcy laws. 

Objection is frequently made, however, to increase 
of land-value taxation on this same ground, viz., that it 
would lower the selling value of land. The owners of 
land at the time the change in tax policy was introduced 
would not, in every case, pay higher taxes. Many of 
them would even find themselves paying lower taxes 
and retaining larger net incomes. For the reduction 
made possible in their other taxes would make up and 
more than make up for the increased taxes on their 
land. Such owners, so long as they continued to hold 
and to use their land, would not suffer because of the 
change in tax policy. Even should they sell their land 
intending to buy other land in its place, their loss as 


sellers would be compensated by their gain as buyers. 
But should they sell their land for money to spend in — 


current enjoyment or in the satisfaction of current 


needs, they would be worse off because of the tax. 
Their land would exchange for a less amount of current 


consumable goods. Owners of vacant land or of land | 
but slightly improved would not only find the salable © 


value of this land reduced, but would also, as a rule, © 
find their net incomes reduced. For in their case a low- 
ered rate of taxation on other property—since they — 


Se a a a 


THE INCIDENCE OF TAXES ON LAND 241 


own very little of such property—would not be felt as 
a compensating advantage. The opponents of in- 
creased land-value taxation urge, therefore, that such 
taxation must needs trench on the long-recognized 
vested rights of landowners, and that society, having 
permitted individuals to buy land on the assumption 
that no special tax would be levied on its rent, may 
not fairly adopt a new policy. 

The counter argument of an advocate of increased 
land-value taxation might be to the effect that the 
general welfare is the end which should be constantly 
held in view, that so-called private rights which inter- 
fere with policies favoring this welfare must not be too 
greatly protected, and that society is not under obliga- 
tion to maintain an unchanged policy even although 
such an unchanged policy has been counted on by pur- 
chasers of land. A purchaser of land, such an advo- 
cate of greater land taxation might say, in buying the 
land buys, in effect, merely the previous owner’s claim 
to the prospective rent, and his purchase must be as- 
sumed to be made on the understanding that society 
can make at least gradual tax changes in any direction 
which may seem wise. The purchaser of land, he 
might assert, buys a claim not to a definite future rent 
but to an indefinite future rent subject to the vicissi- 
tudes of tax changes as well as of changes in popula- 
tion and situation advantage. It may be reasonable 


242 THE ECONOMICS OF TAXATION 


for him to assume that none of these changes will occur 
suddenly, but it is perhaps to be doubted whether so- 
ciety can be regarded as having impliedly pledged it- 
self that any of them, e.g., a change in tax policy, shall 
not occur at all. 

It must, indeed, be admitted that, whether justifiably 
or not, society has from time immemorial made tax 
and other changes disappointing the expectations of 
various persons. ‘Thus, it has made tax laws disap- 
pointing the expectations of accumulators of fortunes 
who had expected to transmit them practically entire 
with no appreciable inheritance tax. It has introduced 
regulation of the rates of public service industries after 
investors have bought stock on the basis of past monop- 
olistic earnings. And it has made laws disappointing 
the expectations of capitalists engaged in manufactur- 
ing and distributing spirituous liquors. No opinion is | 
here expressed as to the justification or the desirability 
of such regulation and laws. But it can be easily seen 
how an advocate of increased land-value taxation might 
draw from them the conclusion that future changes of 
various sorts are not unlikely, that landowners may 
be regarded as having purchased somewhat indefinite 
rather than absolutely definite rights in the future 
rent of their land, and that society is not estopped 
from making such future changes in policy as may 
promise to be generally beneficial. 


THE INCIDENCE OF TAXES ON LAND 243 


The question of what policy is beneficial may be, 
of course, itself subject to dispute. Even if “the 
general welfare” is admitted by all disputants to be 
the goal of public policy, there may still be disagree- 
ment as to what this welfare consists in and what 
it is furthered by. Some will think of a considerably 
stratified society as really the “best”; some will want 
absolute equality; some will desire to give ‘“oppor- 
tunity” to all; some will think the general welfare 
coincident with the welfare of the ‘“‘wage-earning class” 
or of the “middle class.” And it might even be im- 
possible to get an agreement that “the general wel- 
fare,” if seeming to be opposed to some previously 
accepted ethical standard, should be regarded as an 
ultimate goal. 

We have here illustrated the fact that from the same 
analysis of cause and effect relations, persons of differ- 
ent sympathies and points of view can draw widely dif- 
ferent conclusions as to what is desirable public policy. 
Three students of economics might agree entirely as to 
the incidence and capitalization of a tax on land values. 
Yet of the three, one might favor immediate substitu- 
tion of land-value for other taxation; the second might 
favor gradual change; and the third might feel that 
due consideration for the rights of present owners 
would negative any change at all. Doubtless in some 
cases persons holding each of these views are convinced 


244 THE ECONOMICS OF TAXATION 


that the policy they favor is right because of its proba- 
ble effect on the public welfare. In many cases, how- 
ever, though often unconsciously, the view held is based 
on a sort of intuitive* philosophy of ethics. Land- 
value taxation is perhaps supported, by some of its ad- 
vocates, because of a belief in a ‘natural right” of each 
person to a share in the land; and it is opposed, fre- 
quently, because of a belief in a similar kind of sacred 
right of an owner of property not to have that property 
reduced in value by a change in public policy. 

Some economists who have accepted the view that 
increased general taxation of land values is unjustifia- 
ble because it decreases the selling value of land and so 
causes loss to present owners of land, have neverthe- 
less favored the special taxation of future increases in 
the value of land. This limited advocacy of increased 
land-value taxation has, they have believed, freed them 
from the suspicion of advocating anything which might 
destroy any “vested rights.” And, indeed, if future 
increases were never expected or calculated on, this 
view would be correct. But, in fact, as everybody 
knows when he is buying or selling real estate—though 


1It is admitted, however, that the common-welfare basis of 
ethics is intuitive, in a sense. To one who has no social sentiments, 
inborn or acquired, no argument for society-regarding or other- 
regarding as against purely selfish action can be addressed except 
such arguments as ostracism, jail, and the hangman’s rope—i.e, 
only selfish motives can, in such cases, be appealed to. 


THE INCIDENCE OF TAXES ON LAND 245 


many economists and some economists of distinction 
do not seem to be conscious of it when they are writing 
economics—the price of any given piece of land to-day 
is aS much a function of expected future increases in 
its salable or rental value as it is a function of its pres- 
ent rental yield. Hence, if it became known and gen- 
erally believed that a special tax was to be levied on 
these future increases, the present salable value of land 
would thereby be reduced. It follows that if increased 
general taxation of land values involves an illegitimate 
interference with vested rights, so does any new and 
hitherto unexpected tax on future land-value incre- 
ments. For it is mathematically possible to arrange a 
gradual general increase in land-value taxation, cul- 
minating in the extremest form of “single tax,’ which 
would lower the present salable value of land no more 
than would a prospective tax on future increments. In 
the long run, of course, the increased general land-value 
taxation would make land lower in price. But the 
average loss to present owners would not necessarily be 
greater. It is not desired, however, in this book, to ex- 
press opinions as to the “legitimacy” or “illegitimacy,” 
the “morality” or the “immorality” of any tax. The 
purpose is merely to set forth, as clearly as possible, 
the probable incidence and some of the most important 
probable consequences of taxes of various kinds. It is 
believed, however, that the setting forth of this inci- 


246 THE ECONOMICS OF TAXATION 


dence and of these probable consequences will be help- 
ful to those who have no other prejudice or bias than a 
prejudice—if it can be called such—in favor of the 
scientific method, and a real concern for the general 
well-being. 


8 4 
The Incidence of a Purely Local Land-Value Tax 


If, in one community, taxes are levied, on land-values, 
much higher than in neighboring communities, and if 
the funds so raised are wastefully used and do not con- 
duce to the reduction of other taxes, the entire burden 
falls upon the landowners in the community where the 
increased land-value taxation is levied. Their rental 
incomes are reduced and, as we have seen, they cannot 
shift the burden upon tenants by charging higher rents 
or upon consumers of goods by charging higher prices. 
And no loss will fall upon landowners in other com- 
munities where the increased land-value tax has not 
been applied. 

But what if the increased land-value taxation results 
in diminution of taxation on other values? Then the 
community in question tends to become a more advan- 
tageous place for people to live and work and to invest 
their savings. Their untaxed (or less taxed) labor in- 
comes will tend to be larger than the net labor in- 


THE INCIDENCE OF TAXES ON LAND 247 


comes remaining after the payment of taxes in other 
communities. Their untaxed (or less taxed) incomes 
on capital invested will tend to be larger than would be 
their net incomes from capital in other communities 
after paying taxes. Although land is taxed at a higher 
rate, this does not enable owners to charge higher rents 
and it may conceivably, by discouraging speculative 
holding of land, make rents lower. Also, to all new 
buyers of land, the increased tax which they will have 
to pay on it after purchase, tends to be offset by a lower 
purchase price. The expected future tax is, as we have 
seen, capitalized. 

But these advantages to laborers and investors of 
capital in the community in question, which they do 
not enjoy in neighboring communities, may not, there- 
fore, be permanent. Their purely local existence stimu- 
lates laborers and investors to move into and invest 
their capital in the community which taxes land more 
and other values less. This tends to lower the margin 
of production and to raise rents and land values in that 
community. It tends, somewhat, to raise the margin of 
production and to lower rents and land values in those 
communities from which the labor and capital are 
flowing. When equilibrium is restored, the burden of 
the local land-value tax will have been distributed in 
part upon the landowners of neighboring communities 
in the form of lower rents. If, however, the new sys- 


| 


248 THE ECONOMICS OF TAXATION 


tem were nation-wide such inflow of labor and capital 
would be very gradual. The inflow of labor, if not de- 
sired, could be limited by immigration laws. 


8 5 
When Is a Tax Capitalized? 


When is a tax capitalized? Does the process of tax 
capitalization apply to any tax? In the sense in which 
the term is commonly used, it does not. Thus, it does 
not, assuming production under conditions of constant 
cost, apply to a tax on cigars. The producers of the 
taxed cigars will, in large part, go out of the business 
of cigar making unless they can charge a higher price 
than before. If and so far as they thus shift the tax 
upon consumers, their net returns from the business 
done are unaffected, the income on investment for those 
who continue in the business is unaffected and hence, 
in like degree, the salable value of the land and capital 
used in the business is unaffected. The tax cannot be 
capitalized into a smaller value of the business unless 
the tax decreases the net earnings of the business. If 
the tax is shifted entirely upon consumers, and net 
earnings in the business remain as before, there can be 
no tax to capitalize—at least so far as the business is 
concerned. 


THE INCIDENCE OF TAXES ON LAND 249 


Can such a tax, then, be capitalized by consumers? 
Clearly, the real incomes of consumers, as such, would 
be diminished by the tax. But can the salable value of 
these incomes be affected? It would appear that, in 
the type of community with which we are familiar, 
they cannot—unless by imaginative construction. For 
such incomes are not currently salable. An individual 
sells the claim to the future income from his bonds 
when he sells the bonds; he sells the privilege of enjoy- 
ing the prospective income from a monopoly in which 
he owns shares of stock when he sells the stock; he 
sells the prospective rental yield of a piece of land when 
he sells the land. But he does not sell the claim to his 
entire future income and this claim is, therefore, not 
quoted and has no definitely assignable market value. 
It can hardly be said that here is capitalization in the 
usual sense. For practical purposes, therefore, we may 
say that a tax which is shiftable upon consumers cannot 
be capitalized. To be capitalized a tax must rest, defi- 
nitely, upon a salable income. A tax on the net returns 
of monopoly—as on the economic rent of land—does 
so rest. Such a tax cannot be shifted; it does clearly 
diminish the returns of the monopoly—or the land; 
and, therefore, it diminishes the present salable value 
of such future returns. 

It has been authoritatively asserted that, to be capi- 


250 THE ECONOMICS OF TAXATION 


talized, a tax must be exclusive,’ by which is probably 
meant that it must bear on some incomes from property 
and not on all. But is it certain that tax capitalization 
necessarily depends on the exclusiveness of the tax? 
Let us attempt to reach, on this problem, as definite a 
conclusion as possible. 

Suppose, then, first, a non-shiftable tax of 2 per cent., 
on all income from some special kind of property, e.g., 
land or the securities of a monopoly, reducing the net 
income to (say) 4 per cent. of what had been the capi- 
tal value of the property prior to the tax, while returns 
on investments in general remain 6 per cent. Then, if 
the tax, being exclusive, is capitalized, the salable value 
of the taxed property must fall to such a point that the 
net income remaining after the tax, is as large a per 
cent. of this value as can be realized on other invest- 
ments of equal security. 

What will happen, however, if the tax applies equally 
to the income from all property? The argument that 
such a general tax on property cannot be capitalized 
is based on the belief that the income from all property 


1 Seligman, The Shifting and Incidence of Taxation, fourth edi- 
tion, New York (Columbia University Press), 1921. But in a 
recent article on “The Effects of Taxation,” in the Political Science 
Quarterly for March, 1923 (article running from page I to page 
23; specific point here referred to, on page 9), Professor Seligman 
expresses a different view. 


THE INCIDENCE OF TAXES ON LAND 251 


is reduced to a 4 per cent. basis; * and that the pros- 
pective buyer of any special kind of property will not 
require a lower price than before as a condition prece- 
dent to purchase since he can find no better alternative. 

But the conclusion that such a tax cannot at all be 
capitalized depends upon the somewhat questionable 
and perhaps unconsciously made hypothesis that a tax 
on capital or the income from capital will not decrease 
saving. Suppose, however, that as a result of such a 
tax owners of capital equipment which now yields, net, 
4 per cent., instead of 6, most of whom would pre- 
sumably rather possess their capital for the sake of the 
6 per cent. a year than to “‘live it out,” are in large part 
unwilling to hold it intact for only 4 per cent. as com- 
pared with selling it for its former value or even some- 
what less in terms of immediately consumable goods. 
Suppose, also, that persons who would have been will- 
ing to save and so make possible further increase of 
capital for a 6 per cent. return are not in general will- 
ing to do so for 4 per cent., and that persons who would 
be willing to produce a surplus of consumable goods be- 
yond their own needs with which to buy capital yielding 
6 per cent. are not willing to do so for the purchase of 


1 This does not mean that the more risky investments may not 
yield more, so compensating for the greater risk; but it does mean 
that there is no escape from the tax by investing in some other 
way, because all interest returns are taxable. 


352 THE ECONOMICS OF TAXATION 

capital yielding 4 per cent. If a sufficient number of 
persons are so affected, the result of the tax must in- 
evitably be less accumulation and a higher interest rate 
than otherwise. Accumulation of capital will then de- 
crease and may come to anend. It is conceivable that 
the amount of saving done will not even suffice to re- 
place existing capital as it wears out and that the 
amount of capital will become absolutely less. Sup- 
pose that, even with no saving at all being done for the 
time being, and with all efforts being devoted to the 
production of immediately consumable goods rather 
than durable capital, the output of such immediately 
consumable goods in excess of what the producers keep, 
is not sufficient to satisfy the demand of owners of capi- 
tal who are now willing to dispose of their capital at less 
than its former price in order to get such goods. Then 
the rate of interest and, therefore, of discount is tem- 
porarily higher than the ratio of marginal productivity 
of capital to its cost. In that case all capital would 
temporarily be of less salable value because of the tax 
and the tax is, in so far, temporarily capitalized. 

But such a consequence of a tax on the income of all 
capital, only remotely possible even temporarily, could 
not possibly be permanent. If such a tax operates to 
diminish saving, the amount of capital in existence will 
come to be less than if the tax did not exist and its 
marginal productivity will come to be greater. Even- 


THE INCIDENCE OF TAXES ON LAND 253 


tually the rate of capitalization or discount by which a 
future income is translated into a present value must 
come to be the same as the ratio of the marginal pro- 
ductivity of capital (in excess of taxes on it) to its cost. 
And in the long run capital instruments will not be pro- 
duced to sell for less than their cost.1_ When the ratio 
of net marginal productivity of capital to its cost has 
become large enough so that it seems worth while again 
to produce it, the value of such capital will again be 
equal to its cost and will not be less than before the 
tax was laid unless its cost has become less. But what 
is the fact regarding the value of the securities of a 
successful monopoly or regarding the value of land? 
These values were previously, it is to be supposed, 
much above cost of production. The land (land in the 
economic sense as distinguished from improvements) 
had no cost of production but was a free gift of nature. 
Its value might fall greatly before reaching the cost of 
its production, viz., zero. The value of a monopolistic 
business could also fall greatly before reaching a point 
at which the entire plant could be duplicated. A per- 
manently higher interest rate would mean, therefore, 
capitalization or valuation of the property at a higher 
rate of discount—or a lower value of the property. 


1For a development of the idea of cost of capital goods in this 
connection see the author’s book, Economic Science and the Com- 
mon Welfare, Columbia, Missouri (The Missouri Book Company), 
ro2sPare Li: Ch, IV: 


254 THE ECONOMICS OF TAXATION 


, Since the value of equipment goods produced is fixed 
eo their cost of production and cannot for long be 
sw” p- either much more or much less, a tax on such goods is 


aye \" \”” relatively unlikely, as a long run proposition, to be 
NY. a 


a capitalizable. But land and monopoly values may de- 
> cline greatly as a consequence of taxation which de- 


creases the net income from such property while simul- 
taneously causing so great a decrease of capital accu- 
mulation as to keep the net rate of interest on capital 
equipment somewhere near its former level. Ii a tax 

on the income of all property does so operate, i.e., if it 

_ does tend to decrease capital and so to increase in- 

ta “ terest, leaving net interest on capital, after the tax is 
w, 3 subtracted, not much lower than interest prior to the 


\ (- 

ery ce, : 

ate un, tax, but decreasing the net yield of monopoly and of 
" ee land, then the tax, so far as these latter types of prop- 

ee 9 erty are concerned, will be capitalized. We may con- 


clude, therefore, that the fact of a tax being general on 
all property is at least not conclusive against its capi- 
talization.* 


1Cf. note by H. G. Hayes, in the Quarterly Journal of Eco- 
nomics, February, 1920, pp. 373-380, entitled “The Capitalization 
of the Land Tax,” especially p. 376. 


THE INCIDENCE OF TAXES ON LAND 255 


§ 6 


The Incidence of Taxes on Land 
According to Quantity 


We have seen that taxes on land values cannot be 
shifted and that, therefore, they are capitalized into a 
lower salable value of the land. But the same conclu- 
sion would not be justified in the case of a tax on land 
of a fixed amount per acre regardless of value. Such 
a tax may be shifted, at least in part, to consumers. | 
Thus, a tax on land in proportion to area would compel 
the abandonment of land at the margin of cultivation, 
so-called marginal or no-rent land. This would limit 
the output of those goods to the preduction of which 
the abandoned land had been devoted and would tend 
to raise the prices of those goods. Some lines of busi- 
ness are carried on almost exclusively on supra-margi- 
nal land, e.g., merchandising. These industries would 
be directly affected relatively little by the tax. A tax 
of $10 an acre each year on wheat, corn or cotton land 
would be heavy; on the land used for a department 
store in a great city it would be insignificant. The tend- 
ency would be to drive men out of the lines in which 
large areas of cheap land are used into the lines of 
activity in which a small area of valuable land goes a 
long way. The goods produced in the former lines tend 


256 THE ECONOMICS OF TAXATION 


to rise in price. The goods produced in the latter lines, 
since the tax does not cause more money and credit to 
be spent, tend to fall in price. And since slightly 
smaller money incomes are thus received by producers 
in these latter lines, they will consent to take slightly 
smaller money incomes in the taxed line than before, 
the price of the good (or goods) produced in the taxed 
line (or lines) not rising by quite the whole amount of 
the tax. But the rent of land will not be depressed 
in proportion to other money incomes and may even 
rise. If the tax drives industry to some extent away 
from near-marginal land, it in so far increases the de- 
mand for the use of better land and tends to in- 
crease the proportion of the total output going for rent.* 

The effect above indicated as likely to result from a 
tax of a given amount per acre on all land is very nearly 
what would probably result from a tax per acre on all 
agricultural land. A fixed tax per acre is so insignifi- 
cant in relation to any business carried on in a city on 
a relatively small plot of land that it may almost be 
ignored anyway. A fixed tax per acre which is not 
general differs from a general tax in that it may divert 
some land from the taxed use to other uses. But a 
fixed tax per acre on all agricultural land, while it may 
cause some of this land to be diverted to other uses, 


1 Lower real wages might eventually affect population, thus 
causing the burden to be partly shifted back upon landowners. 


THE INCIDENCE OF TAXES ON LAND 257 


will not cause much of it, if any, to be diverted to 
city uses. Much of what has been said, therefore, 
in economic discussion, about taxation of agricultural 
land at a fixed rate per acre, might be said with slight 
qualification about taxation of al/ land at a fixed rate 
per acre. 

A tax of a fixed amount per acre may not be entirely 
shifted even if demand for the goods produced on 
marginal land is absolutely inelastic, unless consumers 
are practically dependent, for a considerable proportion 
of the supply, on the output from marginal land. Sup- 
pose, for illustration, a tax of $1 an acre on all land. 
If the amount of wheat which can be produced to ad- 
vantage on marginal land is ro bushels an acre, if de- 
mand for wheat is inelastic, and if a large part of the 
required output comes from marginal land, then the 
price of wheat must rise, because of such a tax, by ap- 
proximately $1 for 10 bushels or 10 cents a bushel. 
Otherwise the marginal land will be in large part de- 
serted and the wheat will not be produced.* But if 
only a small part of the required wheat comes from 
marginal land, a rise of price of less than 10 cents a 
bushel—e.g., a rise of 4 cents—may make worth while 
the more intensive cultivation of supra-marginal land. 


1It is admitted that where capital has been invested in, or on 
this land, the immobility of the capital may operate to delay 
desertion of the land even though the tax cannot all be shifted, 


258 THE ECONOMICS OF TAXATION 


The increased wheat production on the better land 
might, therefore, make the entire production sufficient 
to meet all requirements, without the use of what had 
been the marginal land. 


$7 
The Incidence of Compound Taxes 


So far we have discussed the incidence of taxation 
reduced to its simplest terms. That is to say, we have 
considered separately the incidence of taxes on com- 
modities, taxes on monopoly profits, taxes on wages, 
taxes on capital or its interest and taxes on the economic 
rent of land. In doing this we have laid the foundation 
for an understanding of the incidence of taxation as 
actually levied. As actually imposed taxes are, fre- 
quently, not simple but complex. Perhaps they should 
be simple. But whether or not they should be simple, 
in the main they are not. ‘Thus, in place of a single 
tax on land values or on capital as distinguished from 
land, we have the so-called general property tax. This 
tax, to be sure, is not levied on the wages of labor. But 
it draws, at any rate in the first instance, from both 
the interest on the taxed capital and the rent of the — 
taxed land. In applying, also, to such consumption 
goods as household furniture it draws from the use- 
interest of the consumers or owners of it. 


THE INCIDENCE OF TAXES ON LAND 259 


What shall be said of the incidence of such a tax? 
Merely that its incidence is a compound of the inci- 
dences of its several component parts. So far as it 
is a tax on land values, it rests upon the owners of 
the land and cannot be shifted upon any others in 
the form of higher rent. So far as it falls upon cap- 
ital, it diminishes the net per cent. interest received 
on capital and this may discourage accumulation and 
so tend in the direction of higher interest. 

There are other problems connected with the general 
property tax. It is a well-known fact that where it is in 
vogue in the various states of the United States a part 
of it is perpetually evaded. Much personal property— 
jewelry, stocks, bonds, etc.—cannot be found by the 
assessor and is usually declared, if at all, only to a 
small per cent. of the actual amount owned by the tax- 
payer. On the other hand, as the taxation of stocks 
and bonds is usually accompanied by the taxation of 
the real estate, machinery, stocks of goods and other 
property of the corporations the stocks and bonds of 
which are taxed as personal property, there is here a 
double taxation. The individually owned business is 
taxed once; the corporation owned business is taxed 
twice—or would be if the tax on personalty were not 
so largely evaded. It is not the present purpose to ex- 
press either satisfaction or regret at these facts, but 
the general property tax can hardly be adequately de- 


260 THE ECONOMICS OF TAXATION 


scribed without mention of these significant characteris- 
tics. 

Consider, now, the income tax. This, again, is a 
combination from the point of view of incidence, of 
several distinct taxes, viz., a tax on income from land 
ownership, a tax on income from capital, and a tax on 
income from labor. Income, as legally defined, in- 
cludes also the additional value that land or capital has 
when sold by any person over its value when bought. 
increase in the value of property, so occurring, is not 
necessarily caused by higher income from the property. 
‘The greater value may be due, especially in the case of 
land, to revaluation at a lower interest rate. The seller 
is to that extent better off and the buyer worse off. But, 
in any case, such a tax, resting on the seller, must come 
out of the seller’s income or out of his property accumu- 
lated in the past; hence, it must be drawn, in the last 
analysis, from rent, wages or interest, or from two or 
all three of these. We are brought back, then, to our 
proposition that a tax on incomes is partly a tax on 
land rent, partly a tax on the interest of capital and 
partly a tax on wages (wages in the broad sense, in- 
cluding the earnings of professional men and business 
enterprisers). And the most reasonable conclusion 
with regard to the incidence of a general tax on in- 
comes would appear to be that so much of it as rests 
on land rent cannot be shifted at all; that the part 


THE INCIDENCE OF TAXES ON LAND 261 


drawn from interest on capital will or will not be 
shifted according as it does or does not retard ac- 
cumulation; and that the part drawn from labor in- 
come will or will not be shifted according to whether 
it does or does not affect the supply of the kinds of 
labor the incomes of which are taxed. 

The objection may be raised that in the case of 
a. general tax on all property or all incomes the payer 
of the tax makes no distinction between the part of 
the tax resting on the rent of land and the part rest- 
ing on the interest of capital and that he will be as 
much discouraged from saving by the one tax as the 
other. But the reader who had followed carefully 
and comprehendingly the reasoning presented in this 
chapter will hardly be misled. So far as the tax rests 
on the interest of capital, it decreases, at least for a 
time, the net rate of interest enjoyed by persons who 
engage in capital accumulation, and may discourage 
such accumulation. So far as the tax rests on the 
rent of land it does, indeed, decrease the net rent 
received by the owner but this does not remove the 
motive to capital accumulation, for, except as a tax on 
capital contemporaneously reduces net interest, the 
per cent. gain from saving is as great as before. It 
may, instead, merely lower the salable value of the 
land. This may cause loss to the owner at the time 
the tax is first levied, but thereafter persons who save 


262 THE ECONOMICS OF TAXATION 


can buy more land with a given accumulated capital 
than before, and we are not prepared to conclude 
that this apparent enhancement of the advantage of 
saving will diminish saving. It seems, then, reason- 
ably safe to conclude that the law of incidence of a 
compound tax is best to be arrived at by ascertaining 
separately the laws of incidence of its component parts. 

The general income tax, whether or not it is shifted, 
is likely to be in some degree evaded. For in its ad- 
ministration it becomes necessary to determine the 
incomes of many persons who are taxable, by their 
own declarations. Where the system of stoppage (or 
information) at source is applied, evasion is reduced 
to a minimum, but the incomes of a considerable num- 
ber of persons, even of some whose incomes are fairly 
large, e.g., many lawyers, doctors, e¢ al., are known 
only to themselves. 


§ 8 
Do All Taxes Discourage Accumulation? 


Lest some should raise the point as an objection 
to the whole theory of incidence presented in this 
study, it may be admitted that, on certain hypotheses, 
any tax may affect the interest rate by decreasing 
accumulation and so tending to decrease the supply 
of capital. Consider, for example, taxes on net mo- 


THE INCIDENCE OF TAXES ON LAND 263 


nopoly profits, and on the economic rent of land. 
Such taxes, as we have seen, cannot be shifted in 
higher prices (or rents) because the monopoly will 
lose more than it will gain if it raises its prices above 
those which previously yielded the highest net returns 
and because the tax on economic rent in no way limits 
the supply of land or goods. Yet, if it be assumed 
that the state would waste wealth taken by taxation, 
which monopolists and landowners would have saved 
and invested in industry, then even such a tax might 
ultimately rest largely upon the non-propertied masses 
rather than upon those initially taxed. For the tax 
would then have the effect of making the volume of 
capital smaller than it would else be and of so making 
the equipment of labor poorer, the marginal produc- 
tivity of capital higher, interest higher and wages 
lower. (If decreased labor effectiveness lessened the 
demand for land, rent might fall.) But on this hy- 
pothesis every tax must diminish accumulation. For 
every tax takes from citizens wealth a part of which 
they might and many probably would save and in- 
vest. 

If, however, it is assumed rather, as it reasonably 
or more reasonably may be, that the funds collected 
by government in taxes are well used and that the 
performance of the functions of government is prac- 
tically necessary to provide security of life and prop- 


264. THE ECONOMICS OF TAXATION 


erty, to enforce contracts, to build roads and bridges, 
etc., then we must suppose that government may and 
probably does use most of the funds collected by it 
more advantageously for society than they would 
otherwise be used. It may be better that an individual 
should receive wealth which comes to him through 
no service given by him to those from whom he gets 
the wealth if to let him receive this wealth will result 
in its being saved, than for the state to take it in 
taxation if such taxation will divert it to wasteful 
ends. This, however, is not the hypothesis from which 
we usually start in considering tax questions. We 
assume the state to be a useful and practically neces- 
sary machine. We cannot overlook the fact that such 
a machine costs something to run and that the means 
to run it have therefore to be secured somewhere. 
We cannot, therefore, in reason, regard every tax as 
occasioning or tending towards a shortage of capital 
and so raising the interest rate. We must assume that, 
in the case of a reasonably intelligent and decent gov- 
ernment, the wealth diverted from private citizens 
to the government is used as favorably for capital 
accumulation as if the taxes had not been levied. But 
although wealth already gained may be as well used, 
in this respect, by government as by individuals, the 
taking of it in taxation may affect the motives of 
individuals for the saving of capital as a means to 


THE INCIDENCE OF TAXES ON LAND 26s 


larger future income. Even though any taxation de- 
creases the ability of the taxed individuals to save, 
the taxation may result in more accumulation than 
would result in the absence of government and of the 
security which taxation enables government to provide. 
But that almost any taxation thus makes possible more 
saving than if there were no taxation at all is beside 
the point generally emphasized in studies of incidence. 
The significant fact for public policy is that some 
taxes do not at all discourage accumulation except in 
the sense that the individual cannot accumulate what 
the state takes from him and that other taxes may 
affect adversely the motive to accumulate. Relatively 
speaking, then, the latter taxes may be said to be 
likely to raise the interest rate so that, in the long 
run, the burden of them falls upon other classes than 
those on whom they are first imposed. The latter 
taxes may be shifted. The former are properly 
enough referred to as taxes which cannot be shifted. 


8 9 
Summary 


In this chapter, in spite of what may appear to be 
digression, we have been mainly interested in the in- 
cidence and effects of taxes on land. Taxes on land 
values conditional on a special use or uses of the land 


266 THE ECONOMICS OF TAXATION 


tend to be shifted upon landowners in general by 
forcing some land out of the taxed use into other 
uses. ‘Taxes on land values in general are borne by 


the owners of the land taxed. Such taxes cannot be 


shifted either in higher rents or in higher prices of 
goods. To tax vacant land at the same rate as used 
land may operate to actually reduce rents by increasing 
somewhat the available supply of supra-marginal land 
and may increase the output of goods. Taxes on land 
values are capitalized into a lower price of land. This 
tends, especially if higher land taxes are contempo- 
raneous with lower capital and other taxes, to make 
purchase of land easier and may tend to diminish 
tenancy. The securing of a competence by the in- 
dustrious and ambitious is easier. Owners of land at 
the time the tax goes into effect, may lose if they have 
to sell out at the resulting lower price. Increased 
taxes on land in one locality together with reductions 
of other taxes may cause rapid settlement in that 
locality, appreciable rise in land rent (though not in 
net rent to owners), and lower land rent in environing 
communities. 





CHAPTER IX 


THE SHIFTING OF TAXES ON SALES OF LAND 
AND CAPITAL GOODS AND ON LOANS 


§ 1 
Taxes on Sales of Land 


A tax on commodities is wholly or partly shifted 
upon consumers according as the taxed goods are pro- 
duced under conditions of constant or increasing cost, 
respectively, and according as the demand for these 
goods—if they are produced under conditions of in- 
creasing cost—is absolutely inelastic, or is more or 
less elastic. If the conditions of production of a taxed 
commodity are those of constant cost, and if the in- 
dustry is a competitive one, all of those in the business 
(with their land and capital) would leave and go into 
some other line or lines of production rather than 
bear any special tax. If the demand for a taxed 
article is absolutely elastic, all the consumers will re- 
fuse to buy rather than pay an appreciably higher 
price. Usually both demand and supply are some- 

1 Obviously those in the industry, along with others, will, as 


consumers, help pay this or other taxes levied on commodities, 


267 


268 THE ECONOMICS OF TAXATION 


what elastic. Some of the persons engaged in pro- 
ducing the taxed article are unwilling to continue so 
doing unless they can shift substantially the entire 


though they can shift but a part or none. Likewise, 
some buyers will not purchase a taxed good, or will 
‘purchase appreciably less of it, if the tax is shifted 
to them in any noticeable degree; but others will pur- 


| 
| 
‘tax, but others may be willing to continue producing 
| 


chase though they have to pay some or all of the tax 
in the form of a higher price. A tax on commodities, 
therefore, or on a given commodity, while it is usually 
borne chiefly by consumers, may frequently be borne 
in part by producers of the goods or good taxed. 

The case of taxes on sales of land or capital goods 
or on mortgages or loans is analogous. But while 
taxes on commodities fall upon consumers as such, 
regardless of the various sources of their incomes, 
and so rest on interest, wages, and rent,’ we may find 
that taxes on sales of land or capital goods or on loans 
have a somewhat different ultimate incidence. 

Let us begin by asking what would be the incidence 
of an appreciable tax on sales of land, e.g., 1 per 


1 If, there being no more money or bank credit expended, prices 
of taxed goods rise, other prices tend to fall. If all commodities 
are taxed, and their prices rise, money incomes tend to fall. Where 
an extra price has to be paid for an article, because of a tax, the 
tax money paid tends to be prevented from acting so immediately 
to make demand for other goods as it might were the tax not 
required. The present writer discussed this point partially in an 


SHIFTING OF TAXES ON LOANS 269 


cent. of the value of each sale. We may assume that 
only some buyers and some sellers are marginal, that 
the remainder of buyers would pay a higher price 
rather than not buy, and that the remainder of the 
sellers would accept a lower net price rather than not 
‘sell. To illustrate the likely situation, on a small scale 
and in a simple way, we may suppose a number of 
pieces of land of equally good quality and location. 
Five of these tracts are owned by A, B, C, D, and E, 
respectively, each of whom would sell for a price of 
$10,000. Of the potential buyers, five, V, W, X, Y, 
and Z, would purchase at that price. The price of 
$10,000 is, then, a price at which all the land of the 
given description can be sold which the owners are 
willing to sell at that price. It is the price which 
“equalizes demand and supply” in the absence of any 
tax on the sales. | 
But what will be the conditions of equalization of 
demand and supply if sales of land are obstructed 
by a i per cent. tax? Since, by hypothesis, some 
of the buyers are marginal, the price of what land is 


article in the Journal of Political Economy for June, 1920, entitled 
“Some Frequently Neglected Factors in the Incidence of Taxa- 
tion.” Emphasis was then placed se fact that, in the case of 
indirect taxation, the tax money goés through several hands on 
its way from consumers to government. But even if consumers, 
when buying taxed goods, paid the tax directly to government, 
the money so paid might, for a very short time, be prevented from 
acting so as to make demand for other goods. 


270 THE ECONOMICS OF TAXATION 


sold can rise by the entire amount of the tax only if 
several of the sellers are also marginal, i.e., would 
rather keep their land than to receive for it, after 
subtracting the tax, less than $10,000 for each tract 
or plot. If all of the would-be purchasers are mar- 
ginal, any rise of price whatsoever must result in no 
sales; and if all of the would-be sellers are marginal, 
their inability to charge any higher price because of 
the tax must result in no sales. But if, of the five 
owners of land who, in the absence of a tax, would 
sell for $10,000, three would rather take (say) $9,940 
net than not to sell; and if, of the five prospective 
buyers, three would rather pay $10,040 than not to 
buy, then three sales will take place in spite of the 
tax, and the tax will be borne $40 by each purchaser 
and $60 by each seller". Demand and supply will 
be equalized, assuming a tax of $100 on each sale, 
with a net sale price of $9,940 and a gross sale price 
of $10,040. The tax is then divided between buyer 
and seller. 

So far, the argument is perhaps obvious and, pos- 
sibly, commonplace. But further analysis is desirable. 
From what sort of economic income is the tax paid— 
or does it come from several sources? Is it drawn 


11f the tax is reckoned as 1 per cent. of the net sale price, it is 


$99.40; if I per cent. of gross sale price, it is $100.40. It has 


seemed well enough, in the text, to reckon the tax at $100 on each 


sale. 


i ie > 
es am 


SHIFTING OF TAXES ON LOANS 271 


from rent or from interest or from wages? Let us 
consider, first, whatever part of such a tax is paid by 
the purchaser. Before we inquire whether, of the 
part paid by the purchaser, any portion is drawn from 
economic rent, we may advantageously state our con- 
ception of rent. The rent of such a piece of land '| 
as we have in contemplation is to be reckoned as 
measured and determined by the difference between. 
the annual product of industry and what that product 
would be if this specific piece of land were non-existent, | 
and if, therefore, the labor and capital employed upon 
it had instead to be used on the margin (extensive or 
intensive) of production. Those business enterprisers 
to whom it makes the maximum difference whether 
or not they secure the use of supramarginal land of a 
given description, will ordinarily offer enough for it 
so as to outbid enterprisers to whom its relative ad- 
vantages are less. The rental value of land of this 
description is (assuming perfect competition) what 
that tenant would pay who is a marginal tenant, i.e., 
who is just induced to hire a piece of this land, and 
without whom the supply of such land, offered at the 
given rent, would exceed the demand. Tenants of 
other plots of land of this description, who are supra- 
marginal tenants, may produce absolutely more from 
the land they hire than does the marginal tenant from 
his, or they may produce merely more relatively to 


272 THE ECONOMICS OF TAXATION 


what they could produce on no-rent land or more than 
they could earn as hired employees. But whatever 
these supramarginal tenants get in excess of the rent 
they pay (and in excess of interest on the capital they 
use) may fairly be reckoned as their wages or re- 
muneration for effort, or, as it is sometimes called 
when the effort is self-directed, their profits.* 

A tax on land sales may conceivably have an indirect 
effect on rent although, in the respect we are about 
to discuss, it is unlikely to. Thus, such a tax may 
make some would-be purchasers prefer to be tenants 
and so may tend to increase the demand for land to. 
rent. But it seems about equally likely that the tax 
would make some intending sellers prefer to lease their 
land to tenants, and would so increase the supply of 
land to be rented. 

A tax on sales of land may, however, be drawn 
directly from rent. Suppose, for example, that the 
supramarginal buyer, who can rather afford to pay a 


1If there is a larger number of persons to whom supramarginal 
land of the given description is relatively much better than the 
rest, then the person who was a marginal tenant of this land falls 
below the margin since others outbid him. The new marginal 
tenant is one who can afford to pay more for it. Under these 
circumstances the difference between having and not having in the 
community any given tract of such land is greater than before. Its 
marginal product is greater. But the marginal product of the 
tenant who is now just induced to hire such land is less than if 
there were fewer to bid against him. Worth-while use of this 
land does not depend so exclusively upon him and a few like him, 


SHIFTING OF TAXES ON LOANS 273 


part of the tax than not to buy, is interested in this 
land only as a prospective recipient of rent. He does 
not intend to do any work on it or to improve it in 
any way, but merely to lease it—perhaps for fifty 
years—with suitable guaranty of rent payment. He 
purchases the land, perhaps because a change of resi- 
dence removes him so far from property he formerly 
owned as to make him fear loss through lack of over- 
sight. He therefore sells his former property, but 
from the rent which his new property yields, a part 
must be subtracted to reimburse him for the tax. In 
such a case the tax is drawn, in the last analysis, from 
rent. 

But the tax may in other circumstances be drawn 
from labor income. Consider the case of a supra- 
marginal buyer, who, as a tenant, could earn for him- 
self $1,000 a year in excess of rent and interest, and 
who could invest his funds in bonds or mortgages so 
as to get as large a per cent. return as the economic 
rent of the land would be. Such a buyer, however, 
might be one who, with the freedom and power of 
initiative of an owner of the land, could get by using 
it, not only what it would rent for,’ but $1,100 a year 
besides. In other words, he might be a person whose 
labor income as such would be $100 a year larger if 
he could direct his own labor entirely and use his 


1 Plus a reasonable interest on the cost of any improvements. 


274 THE ECONOMICS OF TAXATION 


own judgment in managing the land than if he had 
to work as a tenant or an employee. Such a person 
could better afford to pay a part or all of the tax 
than not to become an owner. The tax would be, 
in ultimate effect, a subtraction from his labor income. 
He would be able to pay the tax because his labor 
income as an owner of this land so far exceeds his 
labor income in any other option. He can pay it 
because he has a profits or wages surplus above what 
would be necessary to make him follow the occupa- 
tion of an independent entrepreneur or enterpriser. 
In the absence of the tax he would simply enjoy this 
surplus labor income. But since it is a larger labor 
income than he can secure in his best alternative, and 
since he has available funds to invest, he is willing to 
pay a higher price for his land in order that he may 
enjoy this surplus. He is willing, if necessary, to 
purchase the privilege of earning such a surplus. And 
in that sense the tax, or the part of it which he 
pays, may be regarded as a capital investment look- 
ing toward a larger future income than the purchaser 
could otherwise get from his labor. 

In passing it may be added that, when land is 
bought by a consumer as such, e.g., for a home, the 
supramarginal buyer pays his part of the tax out of his 
“consumer’s surplus.”” Some would rather rent than 
pay any tax. They are marginal. Others are willing 


SHIFTING OF TAXES ON LOANS 275 


to pay a tax for the consumer’s satisfaction of owner- 
ship. 

Consider, now, the case of the sellers. The mar- 
ginal seller will pay no tax. Rather than sell for less 
than $10,000 (to use the figure of our example) he 
perhaps will prefer to operate the land himself or to 
lease it and enjoy the rent. But another potential 
seller may be differently situated. Perhaps he lives 
so far from the land he owns that he would feel safer 
to invest in other property, and would so prefer to 
pay part or all of the tax rather than not sell. Part 
of the interest or rent, or both, derived from his new 
investment may then be regarded as drawn upon to 
pay his loss—though he may simply regard himself 
as permanently that much poorer. Still another poten- 
tial seller may prefer to sell in order that he may 
work as an employee and relieve himself of super- 
visory functions for which he is relatively unfitted and 
which he cannot satisfactorily delegate. Such a seller 
in effect makes good his tax out of the larger labor 
income which he is thereafter enabled to earn. 

That a tax on sales of land would prevent some ' 
exchanges and keep some persons from performing 
the functions for which they are best fitted is probably 
true. Efficiency of production might so be decreased. 
But our present interest is rather with the problem 
whence comes, in the last analysis, the tax money. 


276 THE ECONOMICS OF TAXATION 


It is perhaps hardly necessary to remark that sim- 
ilar conclusions would apply in the case of a tax on 
the sale or transference of any capital equipment. 


§ 2 
Taxes on Mortgages and on Loans in General 


But perhaps a more interesting problem—and one 
which may be discussed in a very similar way—is the 
problem of the taxation of mortgages and of loans 
in general, and the shifting of such taxation. Econ- 
omists in the field of taxation are wont to state that 
a tax on mortgages is shifted upon borrowers, al- 
though sometimes they qualify the statement slightly, — 
admitting that there may be cases where not quite 
all of the tax is so shifted. But the usual analysis 
is incomplete and, therefore, unsatisfactory. The as- 
sumption is generally made that most lenders are 
marginal and will refuse to lend unless they can add 
practically the entire tax to the interest charged the 
borrower. This may be ordinarily true in jurisdictions 
where evasion of mortgage taxatien is prevented, be- 
cause practically every potential lender has an alterna- 
tive almost, if not quite, as good in his ability to in- 
vest in bonds or to invest in mortgages on property 
in another jurisdiction or state. If, and where, the 
potential lenders, however, through unfamiliarity with 


SHIFTING OF TAXES ON LOANS 277 


their other possible options, or through prejudice, are 
excluded from taking advantage of such options, these 
lenders are likely to bear part of such a tax, for most 
of them will prefer, perhaps, to receive somewhat lower 
net interest than not to lend. 

We can perhaps get a clearer glimpse of the theory 
of the subject if we suppose the alternatives of lend- 
ing through some other method—such as bond-buying 
—to be shut off by making the tax general on all loans. 
Let us suppose, then, a federal tax of (say) 2 per cent. 
on loans of every kind, so that the lender may not 
avoid the tax by making a different kind of loan, or 
a loan in a different jurisdiction, and let us suppose 
that information or stoppage at source is so effective 
as to prevent evasion. Would the whole of such a 
tax be shifted to borrowers? 

A proper solution of the problem requires a con- 
sideration of the various alternatives ef borrowers and 
lenders. Undoubtedly some borrowers would be mar- 
ginal. Such would refuse to borrow should the charge 
on loans rise by one iota. Some corporations which 
had intended to borrow by selling their bonds would 
instead sell stock. Some individuals who otherwise 
would have sought to get title to their homes, by pur- 
chasing on mortgage, would now prefer to remain 
tenants. Some business men who might have bor- 
rowed, and so purchased the premises they use, would 


278 THE ECONOMICS OF TAXATION 


instead rent their premises. Some persons who, in 
the absence of the tax, would have purchased farms 
on borrowed money, giving mortgage security, would 
instead become tenants, hired managers, or laborers. 

On the other hand, some borrowers are supramar- 
ginal. The prospective home-owner who would pur- 
chase rather than rent, even if a tax on mortgages 
adds to his interest rate, the business man to whom 
ownership of the premises he occupies and the result- 
ing freedom to make what changes he desires with- 
out let or hindrance means much in larger annual 
income, the farm tenant to whom the difference be- 
tween being an owner and being a tenant is likewise 
significant enough in prospective larger income to make. 
borrowing at a higher rate still preferable to continued 
tenancy—these are supramarginal borrowers. If all 
borrowers were thus supramarginal, and if some of the 
lenders were marginal, the borrowers would clearly 
pay much or all of the tax. 

But some of the lenders are also likely to be supra- 
marginal. For if, as on our present hypothesis, all 
loans are taxed, lenders cannot avoid the tax by merely 
changing the form of the loan or by loaning to a 
corporation instead of to an individual. Those owners 
of funds who do not wish to lend must either invest 
their funds in corporation stock, with the greater risk 
of such investment, or must invest still more directly 


SHIFTING OF TAXES ON LOANS 279 


under their own entrepreneurship or must use up their 
wealth in current gratifications. But some of them 
will be persons who would readily take less interest 
than before—perhaps 2 per cent. less—in preference 
to investing where the risk is greater. Some, also, 
may prefer to take lower interest and be free of the 
necessity of personally directing their investments 
rather than to have to work as business enterprisers or 
entrepreneurs. And some lenders can employ their 
capital so inefficiently themselves that they can better 
afford to lend it at a considerably lower net interest 
than before, perhaps then engaging in work under 
another’s superintendence, than themselves to direct 
the use of their own capital. Under such circumstances 
it is reasonable to suppose that part of a tax on loans 
might fall upon lenders. If to add the entire tax to 
the interest borne by borrowers would cause some 
borrowers—the marginal ones—not to borrow, and 
if many of the lenders would rather lend for less than 
not to lend, then a part of the burden of the tax is 
likely to fall upon lenders. 

On what sorts of income does such a tax on loans 
finally rest? So far as borrowers bear it, it will be 
likely to come out of their surplus labor incomes above 
what they would earn as tenants or employees. The 
supramarginal borrower is willing to pay a part of 
the tax just because he can produce more and get a 


280 THE ECONOMICS OF TAXATION 


larger labor incomé as a self-directing titular owner 
than otherwise. Supramarginal borrowers, at least, 
who thus borrow in spite of the tax, will not be likely 
because of it to do less work or produce fewer goods. 
And marginal borrowers, though the tax prevents them 
from borrowing, will not therefore be prevented from 
working. We need not conclude, therefore, that con- 
sumers, as such, will have to pay the tax in higher 
prices of goods. 

Other borrowers—those, for example, who borrow 
for the pleasure of having title to their homes—pay 
their part of the tax out of consumers’ surplus. In 
the case of the ordinary tax on mortgages, when loans 
and investments of other sorts are not reached, the 
lenders’ options are so numerous and good that they 
will usually pay next to nothing of the tax; but bor- 
rowers who want funds to purchase farms or homes 
will frequently be unable to borrow the required 
amounts except on mortgage security, and, therefore, 
if they are supramarginal, are likely to pay the entire 
tax. 

In the case of a tax on all loans, lenders are likely 
to pay a part. But out of what incomes or classes 
of income will they pay it? Can it be said that they 
will pay it out of interest? Clearly the net returns 
these lenders receive on the capital they loan is re- 
duced by the tax. In this case the tax does not come 


SHIFTING OF TAXES ON LOANS 281 


out of wages, and it certainly does not appear to be 
drawn from rent as such.* It comes, definitely, from 
interest. Whether, in the long run, such a tax may 
affect saving adversely, decrease the supply of and 
increase the marginal productivity of capital, and, by 
so doing, injure other classes, we shall not here in- 
quire. Indeed, it is doubtful whether we could reach 
on this point, with confidence, any conclusion. Suffice 
it to say that we have shown the incidence of a tax 
on loans, so far, to be partly on income from labor 
(when borne by borrowers who borrow for ownership 
and production), partly on consumers’ surplus (when 
borne by persons who borrow to get title to their 
homes), and partly on interest (when borne by lend- 
ers). 

We have not yet, however, sufficiently discussed the 
question whether a tax on mortgages or a tax on all 
loans could be shifted upon consumers. If there are 
some industries which make a larger proportionate use 
of loans than others—the others depending on direct 
investment or on stock sales rather than bond issues 
—then the tax may tend slightly to divert capital 
out of the former industries and into the latter (those 
not making use of loans). This would somewhat in- 
crease the prices of some commodities, but it would 


1 Though the lender’s interest may be paid out of the rent of land 
which the borrower has purchased with the funds loaned to him. 





282 THE ECONOMICS OF TAXATION 


lower the prices of other commodities. Consumers, as 
a whole, would not, perhaps, lose on the one hand 
more than they would gain on the other. But so far 
as the tax affects all industries equally, it does not 
tend to drive capital out of any one business into 
others. Furthermore, persons who are prevented, by 
the tax, from becoming owners of property, have still 
to earn a living and will often produce as tenants, 
hired managers, or laborers, the same kind or kinds 
of goods they would produce as owners. If and when 
this is not the case, and the would-be purchaser of 
land and capital, being prevented from purchasing, 
does not produce the kind of goods to the production 
of which the property is adapted, the would-be seller 
who might have ceased to produce those goods may 
instead continue to produce them. A tax on loans or 
on mortgage loans is distinctly not a tax on commodi- 
ties, and its incidence is not on consumers as such. 
It may have evils in preventing property from getting 
into the hands of persons who can do relatively the 
best with it. It may thus affect the efficiency and 
earning power of those who are prevented from buy- 
ing or selling. But these do not pay the tax since 
the threat of it prevented their intended transactions. 
And there can be no shifting of a tax where there is 
no tax to shift. If labor efficiency is reduced, those 
who are therefore unable to earn so much suffer in 


SHIFTING OF TAXES ON LOANS 283 


their wages or profits. Neither they nor others suffer 
as consumers. 

While it is interesting to discuss the incidence of 
taxes on loans in general or on mortgages in partic- 
ular, supposing such taxes to be levied and effectively 
collected, it is well known that, in general, it has 
proved impossible to collect them. Such taxes are, 
in the United States, a part of the so-called “general 
property tax” levied by many American states and 
cities. Stocks, bonds, money, and mortgages are easily 
concealed. The owner, declaring his property for pur- 
poses of taxation, ordinarily understates his property 
in these forms by about 90 per cent.1_ Hence, such 
property is, in fact, but lightly taxed and there is little 
burden to be shifted. 

It is interesting to note—and we may note the fact 
here without attempting either praise or blame—that 
the general property tax as actually applied in present- 
day America is a system under which the attempt is 
made to tax some property twice while other property 
is taxed but once. This is probably due to our com- 
plicated system of property owning coupled with a 
failure on the part of the ordinary citizen to under- 
stand the fundamental similarity of ownership in cases 

1See Gephart, “The Operation of the General Property Tax 


in Missouri,” Washington University Studies, Vol. VI, Humanistic 
Series, No. I, 1918, pp. 20-23. 


284 THE ECONOMICS OF TAXATION 


which are superficially different. Thus, to illustrate, 
suppose that a farmer owns a farm. He is taxed 
on it under the general property tax at some assessed 
value. If three or more brothers own it in partner- 
ship, each is liable for part of such a tax depending 
upon his proportionate share of the total value. But 
what if the brothers organize a corporation to hold 
the farm, each of them owning his proportionate share 
in the stock of such corporation. Then a tax may be 
levied on the farm owned by the corporation and also 
on the stock of the corporation owned by the brothers. 
The ownership of the stock is merely the ownership 
of a part of the value of the farm indirectly. But the 
case is treated as if the actual property were doubled. 
The individual farmer might conceivably be taxed in 
a similar way, i.e., on his farm and also on his deed — 
of ownership of the farm. This, in fact, is not done, ~ 
but if his ownership is evidenced through the posses- 
sion of certificates of stock in a corporation instead of © 
through a private deed or through articles of partner- 
ship, then there are two taxes instead of one—or would ~ 
be if the tax on the stock could be collected. 


§ 3 
Taxes on Sales of Corporation Securities 


The taxation of sales of corporate securities is an © 





SHIFTING OF TAXES ON LOANS . 285 


analogous problem. ‘There are marginal and supra- 
marginal buyers, marginal and supramarginal sellers. 
The supramarginal buyers would be willing to pay 
some tax in the form of a higher price for stocks and 
bonds rather than to adopt the option of not saving, 
of lending to private persons, or of directly managing 
their own funds. So far as a supramarginal buyer pays 
such a tax, he pays it in effect from the income of the 
investment in excess of that necessary to induce him 
so to invest his funds. The supramarginal sellers are 
those who would rather take less for corporate securi- 
ties they have to sell than to be deprived of the chance 
to spend or “live out” their capital or than to be un- 
able to lend to private persons or than to be prevented 
from investing directly under their own direction. So 
far as they pay this tax it comes out of the surplus 
labor income which they expect to be able to get if 
they can superintend their own capital, or—if they 
intend to spend it in personal consumption—out of 
the excess of consumers’ utility above what is neces- 
sary to make them choose that option. 

So far we have seen no reason to suggest that such 
a tax will diminish saving. The buyer who is margi- 
nal between investing in corporate securities or using 
up his savings may be induced to do the latter. But 
the seller who is marginal between holding his securi- 
ties and using up his wealth may be induced by the 


286 THE ECONOMICS OF TAXATION 


tax to do the former. When, however, we come to 
consider, not the transfer of long-issued securities from 
person to person, but the sale of new securities to 
provide funds for corporate business, there may be 
significance in a tax which reduces the net per cent. 
return to the potential investor. Conceivably accumu- 
lation will be adversely affected, the supply of capital 
diminished, the marginal productivity of capital in- 
creased, and the rate of return on capital raised. Or, 
if the marginal investor is not marginal between in- 
vesting in corporate securities and spending for cur- 
rent consumption, but instead is marginal between in- 
vesting in corporate securities and investing under his 
own management as an entrepreneur, then such a tax 
will diminish corporate enterprise, and may so dimin- 
ish it and substitute private enterprise in its place, 
even where corporate enterprise somewhat better serves 
the purpose. : | 

Finally, any considerable tax on sales of corporate 
securities would of course negative their frequent trans- 
fer. A supramarginal buyer, of the sort we have de- 
scribed, might prefer to pay such a tax in order that 
his money might be invested in corporate securities 
over a fairly long period. But he could not so well 
afford to pay even a small part of such a tax if he 
were likely to need to liquidate his investment—i.e., 
sell the securities—a day or two after buying them. 


SHIFTING OF TAXES ON LOANS 287 


A tax of 1 per cent. on the market value of securities 
sold might be relatively unimportant to the long-time 
investor. But if a security were active and sold every 
day, the taxes on it during a year would be several 
times its total value. Assuming no market fluctua- 
tions, every buyer would have to sell it for less than 
he paid for it, by the amount of the tax. The seller, 
as such, might bear a part of the tax and the buyer 
a part, but the buyer who was also a seller would pay 
all of the tax. And only a speculative motive would 
be likely to induce any one deliberately to put himself 
into such a position. 


$4 


Summary 


We have seen, in this chapter, that a tax on sales 
of land (or capital) may, like a tax on commodities, 
rest partly on persons connected with the supply side 
of the market and partly on buyers, according to the 
elasticity or inelasticity of demand and of supply. 
Similarly, a tax on loans may rest in part on lenders 
despite the frequent insistence of some economists that 
such a tax falls, in the last analysis, on borrowers. 
Doubtless in practice borrowers do pay most of a tax 
on mortgages when such a tax is levied, e.g., by one 
of our American state governments, and when vigorous 


288 THE ECONOMICS OF TAXATION 


attempts are made to discover mortgage ownership and 
to collect the tax, because lenders can so easily invest 
in securities the ownership of which cannot be dis- 
covered or in mortgages in other jurisdictions. The 
incidence of a tax on sales of securities is also likely 
to be partly on buyers and partly on sellers. The 
funds secured by such taxes as have been discussed 
in this chapter are, according to the varying circum- 
stances of each case, drawn from the labor incomes, 
interest or rent of the persons on whom the taxes rest. 


CHAPTER X 


THE INCIDENCE OF IMPORT AND EXPORT 
TARIFFS 


Sr 
Revenue versus Protective Tariffs 


Taxes may be levied either on goods coming into 
or on goods going out of a country. The former are — 
spoken of as import duties or tariffs. The latter are 
export duties. Of the two, import duties are much 
more common and, therefore, ordinarily receive more 
attention in economic discussions. A protective tariff 
is a schedule of import duties on various articles. 
But import duties are not necessarily protective. They 
may be levied solely for the purpose of securing rev- 
enue. In practice, import duties are often the result 
of acompromise. They indicate a desire to “straddle.” 
They provide some protection and yield some revenue. 
They try to combine two opposing principles. They 
give less protection than a purely protective tariff 
would give and they yield less revenue than a purely 
revenue tariff would yield. A tariff might be levied, 
strictly for protection, which would so discourage im- 

289 


290 THE ECONOMICS OF TAXATION 


porting as to yield no revenue. Likewise, a tariff 
might be levied, strictly for revenue, which would 
provide no protection. Tariffs of this latter kind, at 
least, have actually been levied, for example by Great 
Britain. 


§ 2 
The Nature and Purpose of a Protective Tariff 


The specific purpose of a protective tariff, so-called, 
is to prevent or restrict importation. The advocates 
of protection hope, by this means, to enable the home 
producer to sell his goods in the domestic market un- 
hindered by foreign competition and, therefore, pre- 
sumably, at a higher price than he could secure if 
not so “protected.” For indeed protection is not a 
necessary means of giving home producers the domes- 
tic market. It is only a necessary means of giving 
them this domestic market while they are nevertheless 
charging relatively high prices for their goods. The 
home producers of any given commodity (or com- 
modities) could have the domestic market without any 
protective tariff, to the practical exclusion of foreign 
producers of the same sort of good, if they would sell 
it for a low enough price. Such a low price could 
of course be charged if the land, labor and capital 
required for producing the good could be secured for 


IMPORT AND EXPORT TARIFFS 291 


low rent, wages and interest respectively, as they could 
if there were no alternative industry more profitable. 
Likewise, labor, land and capital could find ample em- 
ployment in such an industry, without protection, if 
they would offer themselves at sufficiently low rates. 
What the protective tariff really does is to enable labor, 
land and capital to get more in such an industry than 
they could get without protection, by making possible 
the charging of a higher price for the output than the 
unrestricted competition of imported goods would per- 
mit. It may fairly be said, then, that a protective 
tariff is a device for enabling the home producers of 
the goods protected to charge higher prices than could 
be charged without protection. 

To illustrate, let us suppose that woolen cloth of a 
given quality can be produced abroad and sold in the 
United States at a price of 20 cents a yard. Let us 
suppose, also, that the so-called cost of producing such 
cloth in the United States is 40 cents a yard. Then 
a tariff of 20 cents or something more, per yard, would 
enable the home producers of woolen cloth to sell for 
40 cents a yard, whereas, without such a tariff, they 
would have to meet the price of their foreign competi- 
tors, 20 cents, or keep out of the business. 

But if 40 cents a yard is the cost of producing in 
the United States, is it possible for a domestic manu- 
facturer to produce cloth and sell for less than cost? 


292 THE ECONOMICS OF TAXATION 


Does he not ‘‘need” a tariff which will enable him — 
to charge for the cloth at least what it costs to make it? 

In order to answer this question intelligently we 
need to recur to our analysis of cost of production. 
When demand and supply are equal, the cost of pro- 
duction of the marginal unit produced is, under condi- 
tions of competition, just equal to the price. Cost of 
production we have seen’ to be resolvable into what 
the factors engaged in producing a given article could 
secure if each such factor were directed to another in- 
dustry. To say, therefore, that the cost of production 
of cloth is 40 cents a yard is to say that the amount 
which could be secured elsewhere by the labor, the 
capital and the land which is required to produce, 
jointly, a yard of cloth is 40 cents. If all the labor, 
capital and land which is needed for the business of 
manufacturing woolen cloth in the United States can 
be secured for a Jess amount per yard produced than 
40 cents, then it is nonsense to say that the cost is 
40 cents per yard. If the best that the labor and 
other factors required can get in another no less agree- 
able industry is 19 cents, then a price of little more 
than 19 cents a yard will be enough to draw labor 
and other factors into cloth manufacturing, and the 


1 Chapter III, §§ 2, 3 and 6. See also the author’s book, Eco- 
nomic Science and the Common Welfare, Columbia, Mo, (The 
Missouri Book Co.), 1923, Part II, Ch, II, §§ 2-5. 


IMPORT AND EXPORT TARIFFS 293 


home product will be able, without any tariff, to under- 
sell the foreign product in the home market. And if 
enough such cloth can be produced, at 19 cents, to 
satisfy the entire domestic demand, a tariff will not, 
in the absence of monopoly control, raise the domes- 





tic price. 

It may happen, of course, that some labor, land 
and capital can be secured at 19 cents while other 
labor, land and capital, being relatively better adapted 
to other industries, cannot be drawn into woolen cloth 
production for less than 25, 30, 35 and 40 cents. 

Or perhaps some labor, while not able to secure larger 
returns elsewhere, may find work in textile mills so 
relatively disagreeable that only a high wage and a 
correspondingly high price of cloth will draw it in. 
If then, the desired woolen cloth cannot be secured, 
at home, without drawing into the business labor, land 
and capital which will not come at less than 40 cents 
and if the demand, at that price, is sufficient to take 
all that can be produced by drawing in such labor, 
land and capital, then the result of a high protective 
tariff must be to make the price of the cloth 40 cents 
a yard. The cloth would cost 4o cents a yard at the 
margin, i.e., to the marginal producing factors. 

It may be worth while to point out here that what 

it might be necessary to pay the marginal labor and 
other factors to bring such factors into the business, 


204 THE ECONOMICS OF TAXATION 


all labor, land and capital of corresponding efficiency 
engaged in the business would tend to get. Thus, if 
one carpenter, A, has to be paid $1,000 a year because 
he can make as much in another job, the services of 
another carpenter, B, who is equally efficient, will 
command as much. If they did not, employers would 
prefer to hire B, and would bid against each other 
for B’s services. Competition must inevitably tend— 
although, of course, it is often imperfect—in the direc- 
tion of giving to those who can easily be induced to 
enter work in any given line, as much as those get 
who are barely induced to enter it. If, then, the 
marginal cost of producing woolen cloth in the United 
States is 40 cents a yard, the typical cloth manufac- 
turer, reckoning up his actual or prospective expenses 
for wages, interest and rent (including returns for his 
own time, capital and land) will say that the cloth 
costs him 40 cents a yard to produce. Doubtless a 
price somewhat less than 4o cents a yard would, 
though reducing wages, etc., in the industry, leave 
some labor, capital and land still in the business. 
Nevertheless, such a manufacturer would probably say 
that he “needed” a tariff of at least 20 cents a yard to 
enable him to compete. 

Consider the matter now from the viewpoint of the 
national income. ‘The protective tariff, by preventing 
the sale of the foreign cloth here, except at 40 cents 


IMPORT AND EXPORT TARIFFS 205 


/or more per yard, enables the domestic producer to 
_charge 40 cents. It enables him to charge what the 
cloth “costs” him. But to say this is merely to say 
that it enables him to charge enough so that he and 
those he hires and the land and capital used can get 
-as much as, where they are marginal, they could in 
-any case get in other lines. The consuming public 
must, however, pay 40 cents for its cloth instead of 
20. In other words, the consuming public must pay 
20 cents more for every yard of cloth it buys, not 
in order that home cloth producers may be 20 cents 
better off than they would otherwise be but merely 
in order that they may be as well off (where they are 
marginal) as they could be without the tariff if they 
would go into or remain in the industries for which 
they are respectively best adapted. To express still 
differently the same thought, the general public in- 
evitably loses more than the protected producers gain. 
For the general public loses 20 cents on every yard 
of cloth. But the cloth producers do not gain by this 
entire amount—if, indeed, they gain at all. So far 
as it is true that producers must have 40 cents to 
keep them in the business, this is because there are 
other lines in which they can engage where they will 
be as well off as if producing cloth at 40 cents a yard. 
If so, they gain nothing by protection. And even if 
other lines would not be as profitable for them as 


2096 THE ECONOMICS OF TAXATION 


producing cloth at 40 cents a yard, nevertheless their 
gain from the tariff is less than the general public’s 
loss. Only if those connected with the cloth-producing 
business would rather produce cloth, even at 20 cents 
a yard, than devote their labor, land and capital to 
anything else, can it be said that the surplus 20 cents 
is all net gain to them in excess of what they could 
get in the next best line open to them. Only in that 
case does the tariff benefit the protected interests as 
much as it hurts the public. But even in that case, 
the gain of the protected interests cannot possibly ex- 
ceed the loss of the purchasing public. For without 
a tariff they could still engage in the industry—if they 
chose—for a return of 20 cents per yard, or whatever 
price might be necessary to insure a market for their 
goods. And to whatever extent the tariff might en- 
able them to increase their price, to just that extent, 
at least, it would be a burden upon consumers. 

Up to this point, in our discussion of the protective 
tariff policy, we have considered the cost of produc- 
tion of the protected cloth as the amount necessary 
to bring into the business the marginal labor, land 
and capital necessary to supply the public. Let us, 
however, center our attention, for a while, on labor 
alone, assuming the other costs to be non-existent. So 
far as labor alone is concerned, the cost of produc- 
tion of the cloth is the amount per yard necessary 


IMPORT AND EXPORT TARIFFS 297 


to bring labor into this line from other lines of pro- 
duction or to keep it from going into other lines. 
If the labor necessary to produce woolen cloth of the 
given grade can earn, in the United States, $4 a day 
at other work and if it can produce but 1o yards of 
cloth per day, per person employed, then the cloth 
must sell for not less than 40 cents a yard in order 
that the 10 yards produced may bring an equal wage 
in the cloth industry. 

It is said, however, that protection is necessary in 
order that the domestic woolen cloth industry may 
exist, in order that those engaged in it may have em- 
ployment, and in order to keep up wages-in-general. 
The woolen cloth industry might not exist without 
protection, but if so, this is only because the persons 
engaged in it could do better in something else than 
they could then do in this industry. Protection keeps 
them in the industry only at the expense of others. 
The statement that protection keeps the industry in 
existence may be true, but it does not indicate any 
advantage of protection. And the other two alleged 
advantages of protection are simply non-existent. 
The persons engaged in the industry can have all the 
employment they want, without any tariff, if they will 
take for their services what these services would be 
worth, i.e., they can have the entire domestic market 
for their domestic cloth, and as much employment in 


298 THE ECONOMICS OF TAXATION 


producing cloth as with the tariff, and can have it 
without tariff protection, if they will only sell the cloth 
for a low price and take as wages what such a price 
will yield. They will, perhaps, prefer to follow other 
lines rather than do this. But to say this is to say 
that there are opportunities of employment in such 
other lines. Indeed, to let cloth consumers buy their 
cloth abroad at 20 cents a yard, would save them the 
other 20 cents which they could then spend on other 
things. Also, it would enable foreigners to buy more 
American goods. Thus, in two ways would such pur- 
chase abroad contribute to the demand for American 
labor. 

We come, then, to the contention so familiar to 
our American public, that protection makes wages 
high. In the sort of case we are considering it may 
possibly raise the wages of some persons. But it 
can do so, if at all, only at the expense—normally the 
much greater expense—of other persons. Those cloth- 
producing wage-earners who could do no better in any 
other line than they could do in woolen cloth produc- 
tion under conditions of free trade, who could not 
earn in any other line more than $2 per day, would 
gain, by virtue of the tariff, 20 cents additional a yard 
or $2 additional a day. But this they would gain by 
the corresponding loss of those other workers, e.g., 
carpenters, brick-layers, iron-molders, mechanics and 


IMPORT AND EXPORT TARIFFS 299 


farmers, who have to buy the cloth at the increased 
price. We may safely assert, then, that no protective 
tariff on goods which can be imported more cheaply 
than they can be produced at home, and as to which 
this condition remains indefinitely true, can possibly 
raise the wages of those producing such goods with- 
out taking an equal amount away from the consumers, 
who are, in the large, equally likely to be wage-earners. 

We have already found reason to believe, however, 
that average wages are actually lowered by a tariff. 
Most of the protected wage-earners, if protection were 
removed, would not need to stay in the woolen cloth 
industry and get only 20 cents a yard or $2 a day. 
They would be able to engage in other industries yield- 
ing more than this; some of them, perhaps, could earn 
$4 a day and under free trade the $4 would buy more. 
Under these circumstances the result of the tariff is 
to give much less—if anything—to the workers in the 
protected industry than it takes away from other 
workers. The tariff is a means by which some gain 
relatively littl—if anything at all—and by which 
others lose much. It is a means by which part of 
the people of the protectionist country get more than 
their services would otherwise command in the pro- 


1Tf it be true, in practice, that part of the loss falls upon land- 
owners and capitalists in other lines, it may also be true that not 
all the gain from the protective tariff goes to wage-earners, 


300 THE ECONOMICS OF TAXATION 


tected work and get it at the expense of their fellow 
citizens who have to buy goods at prices enhanced 
by protection. 

There is no intention to assert that there are not 
any respectable arguments for protection. The infant 
industry argument has been put forth as sometimes 
justifying protection. When fairly stated this argu- 
ment admits the economic loss from diverting people 
out of lines where they work most effectively, into 
other lines. But it asserts that the industries so 
started at a loss, may soon develop to a point where 
they need no protection. (Unfortunately, those in 
such industries seem seldom willing to admit that the 
industries have reached such a point.) If it were 
politically possible to select industries for protection 
solely on the basis of their chance of so developing, 
this argument for a protective tariff might have con- 





EE ee ee —— 


siderable weight. And perhaps as much or more may 


be said in favor of the development at home, at an 
economic loss if need be, of industries which seem 
essential to national defense. 

Nevertheless it remains true, in general, that a pro- 
tective tariff, as such, is a means of shutting out goods 
rather than of raising revenue; that, if completely 
effective in shutting out imports, it raises no revenue 
whatever for government; that it does raise the price 
of goods to consumers and that, therefore, the tax (if 


* i Ti = 


IMPORT AND EXPORT TARIFFS 301 


the protective tariff be regarded as a tax) is collected 
from consumers by the protected producers rather than 
the government. 


§ 3 
When “the Foreigner Pays the Tax’ 


One minor qualification, however, it is necessary to 
make. The claim is sometimes advanced by protec- 
tionists who have not analyzed the phenomena of in- 
ternational trade, that “the foreigner pays the tax.” 
The fact is, as we have just seen, that, in general, the 
tax is paid by the domestic consumers in higher prices 
of the protected goods, that the tax goes to the domes- 
tic producers of these goods rather than to the taxing 
government, and that the domestic producers of these 
goods gain less—where they gain anything—than the 
consumers lose. Nevertheless, there is a theoretically 
possible case, not at all understood by most protec- 
tionists, under which the burden of a protective duty 
might be chiefly borne by foreign producers. 

Let us suppose that woolen cloth can be produced 
in the United States for 21 cents a yard and that cost 
of production of such cloth in the United States is 
constant (i.e., it costs no more per yard to produce 
a billion yards a day than to produce 50,000 yards). 
Then a tariff shutting out foreign cloth would not, 


302 THE ECONOMICS OF TAXATION 


assuming no monopoly to be established, raise the 
price of cloth above 21 cents a yard. If, however, 
domestic industry is thus so far diverted into this 
line as to provide for the entire domestic demand, the 
government will receive no revenue. In order that the 
government should receive revenue some of the article 
must still be imported despite the tariff. 

Suppose, now, that the tariff is 10 cents a yard and 
that the cost of production abroad is 20 cents a yard. 
Then, if this foreign cost of production is constant, 
any or all of the foreign producers would go out of 
the business rather than sell in the United States for 
20 or 21 cents a yard and so have only 10 or 11 cents 
a yard for themselves after paying the tax. 

But if production abroad is under conditions of 
increasing cost, part of the tax may be paid by for- 
eigners. Thus, suppose the first ro million yards of 
cloth produced abroad cost 11 cents a yard, the next 
million 13 cents, the twelfth million yards 15 cents, 
the thirteenth million yards 16 cents and so on up to 
20 cents or more, the cost per yard of the last mil- 
lion yards necessary to supply the American market. 
Then a tax of 10 cents a yard, coupled with the pos- 7 
sibility of production at home of any quantity of the 
cloth at 21 cents a yard (i.e., constant cost at home), 
would result in all land, Pe and capital abroad ceas- 
ing to produce cloth for export to the United States, 


| 
| 
| 
; 


IMPORT AND EXPORT TARIFFS 303 


except such land, labor and capital as could be kept 
in the industry at a net price of 11 cents a yard. On 
our present supposition there is enough land, labor 
and capital which could be kept in the business for 
that price, to make a total of 10 million yards. If, 
therefore, the American public can be supplied with 
domestically-produced cloth at 21 cents a yard and if 
10 million yards can be secured from abroad for 21 
cents (including the tax of 10 cents) or slightly less 
a yard, whereas to completely supply American needs 
from abroad would bring the marginal cost up to 30 
cents a yard (net price 20 cents plus tax of ro cents), 
then after the tax the price to the American public 
could still not exceed 21 cents. ‘Those foreign pro- 
ducers who continued to be willing to turn their land, 
labor and capital into cloth production despite the 
decreased net return (only 11 cents after paying the 
tax) would be getting about 9 cents less per yard than 
before. So far as such a tariff might cause Americans 
to buy home-produced cloth instead of imported cloth, 
the government would get no revenue even though the 
price of the cloth was raised somewhat by the tariff. 
But so far as cloth was still imported, at a price as 
low as that of the domestically-produced cloth (viz., 
21 cents a yard), the government would secure 10 
cents on each yard and would secure it chiefly at the 
expense of the foreigners, whose net price received 


304 THE ECONOMICS OF TAXATION 


would be 9 cents less per yard than if there were no 
tariff. 

It should be reasonably obvious, however, to the un- 
prejudiced student of international trade, that a tariff 
which at the same time protects a home industry, raises 
prices of the protected goods hardly at all and secures 
large revenue for government, is rather a theoretical 
possibility than a practically attainable goal. For it 
will hardly ever occur, if it ever occurs, that goods 
which can be produced at home under conditions of 
constant cost up to a large output, for nearly as little 
as their former price when imported, are produced 
abroad under conditions of increasing cost such that 
they will continue to be imported in large quantities 
at almost the same price after the tax is levied as 
before. In general, a tariff which protects is likely 
to raise considerably the price of the protected goods. 
Even if it does not, it is at least likely to substitute 
home production of these goods for foreign production 
to such an extent that the government gets no appre- 
ciable revenue. If, as a consequence of higher prices, 
revenue is received by the home producers of these 
goods, from the consumers, this revenue does not go 
to the government.’ 


1For further consideration of the problems of international 
trade and protective tariffs and the various possible effects of 
protection on rent, wages, etc., the reader is referred to books 
dealing especially with these subjects, eg, the author’s book, 
Principles of Commerce, New York (Macmillan), 1916. 


IMPORT AND EXPORT TARIFFS 305 


$ 4 
Import Duties Levied Purely for Revenue 


The characteristic of an import duty levied strictly 
for revenue is that it is intended to get revenue rather 
than to protect. A strictly revenue duty would not 
provide any protection at all. It would not divert 
domestic industry into producing the kinds of goods 
on which the import duty was levied. The writer 
recalls once hearing the argument advanced by a per- 
son not familiar with economic principles, that a pro- 
tective tariff is necessary as a means of raising revenue. 
This view would be, of course, entirely erroneous even 
if the government had no sources of revenue but 
tariffs. So far as a protective tariff serves its primary 
purpose of keeping out foreign goods, it prevents the 
collection of duties on such goods. Even if foreign 
goods are not entirely excluded and there is some 
incidental revenue, this revenue could in every case 
be greatly increased by adjusting the tariff on a purely 
revenue basis. A tariff purely for revenue is not 
~ necessarily a lower tariff than a protective one. But 
it is levied in such a way as to avoid, so far as possible, 
shutting out foreign goods, in order that the maximum 
revenue may be secured from the tax upon them. 

In order that a tariff may not exclude foreign goods, 


306 THE ECONOMICS OF TAXATION 


it may be levied on either of two principles. It may, 
first, be levied only on goods which cannot, practically, 
be produced in the levying country, or—which comes 
to nearly the same thing—it may be levied on goods 
which cannot be domestically produced except at con- 
siderably greater cost than the price of the imported 
goods. In the latter case, the purely revenue tariff 
must be low enough so as not to offset the greater 
cheapness of the imported goods. ‘Thus, if a given 
kind of cloth can be imported into the United States 
for 20 cents a yard and can be manufactured in the 
United States for 50 cents, a tariff of 5 cents or 10 
cents a yard would presumably not cause people to 
buy such cloth from domestic producers. It would, 
therefore, be a revenue tariff. 

But, second, a tariff might be levied on goods which 
had been imported for only a little less than the cost 
of producing them at home and the tariff might be 
very high; yet it might give no protection whatever 
but be strictly a revenue tariff. Such a tariff would 
be one accompanied by an equal tax on goods domes- 
tically produced. ‘Thus, if the cloth which could be 
imported at a price of 20 cents a yard (untaxed) 
would cost 25 cents if produced at home, a tariff of 
5 cents or more a yard without any corresponding tax 
on the home-produced cloth would be protective. Such 
a tariff would cause production of the cloth at home 


_ OE 


. IMPORT AND EXPORT TARIFFS 307 


even though some other industry or industries could 
be carried on to greater advantage, i.e., even though 
the cloth could be got in larger quantities for the same 
amount of work by trading for it other goods produced 
at home. But the tariff can be made for 10 cents or 
20 cents a yard or any amount more without being 
protective provided the same amount of tax is im- 
posed on the cloth domestically produced. If the 
imported cloth is 20 cents a yard before the tax is 
levied and the tax (of, say, 20 cents) makes it cost 
4o cents, it will still have an advantage over the do- 
mestically-produced cloth provided a like tax on the 
latter makes it cost 45 cents. High import duties, 
when similarly high taxes are levied on the domesti- 
cally-produced goods, presumably leave the choice of 
consumers between domestic and foreign goods, just 
as it was before.* 


1The question may be raised, however, whether this result is 
quite as exactly achieved if a fixed amount is added, by the tax, 
to the price of both imported and domestic articles, as it would 
be by a tax of a fixed proportion of their former values. And, 
of course, a tariff ostensibly intended solely for revenue may 
conceivably provide protection for the domestic producers of a 
substitute article. 


308 THE ECONOMICS OF TAXATION 


8 5 


Conditions Under Which a Duty Levied Purely for 
Revenue is Borne Exclusively by the People 
of the Levying Country 


The incidence of an import duty is comparable to 
the incidence of a tax on output of goods. The bur- 
den must fall upon the consumers if the goods are 
produced under conditions of absolutely constant cost * 
or if demand is absolutely inelastic. Thus, suppose a 
duty levied by the United States, for revenue, upon 
bananas. If any amount of the goods can be had at 
a price (excluding the tax) of 20 cents a dozen and 
if none of the producers of bananas will remain in the 
business at any lower price—i.e., if cost of produc- 
tion is constant—a tariff of 10 cents a dozen must 
raise the price by an exactly equal amount, viz., to 
30 cents. 

But even if production is, as it most likely is in 
the case of bananas, under conditions of increasing 


cost, the entire tax will still be shifted upon consumers - 


if the demand is inelastic. For if a lower net price 
to consumers would cause even a slight decrease in 
the number of persons and the amount of land and 
capital devoted to producing bananas, and if demand 


1 See, however, discussion in §6 of this Chapter (X). 


IMPORT AND EXPORT TARIFFS 309 


is absolutely inelastic, then demand would exceed sup- 
ply at any price which failed to give producers the 
same net returns as if the tariff were not levied. In 
other words, given inelastic demand the consumers 
must bear the entire tax. | 

The money collected through such a tax is, of 
course, expended by the government which levies it. 
The tax does not add to the amount of money owed 
to foreign countries. It presumably does not appre- 
ciably affect the relative amounts of money in differ- 
ent countries.* It merely takes something from the 
consumers of the taxed article (or articles) and trans- 
fers it to the state. 


§ 6 


Conditions Under Which an Import Revenue Duty 
Might Rest in Whole or in Part upon Another 
Country or Countries than the One 
Levying the Duty 


There are, however, other circumstances, under 
which the burden may rest, in part, upon persons 


1 The rise of the price of the taxed article might, according to 
a logical deduction from the theory of the relation between money 
and prices, lower, almost infinitesimally, the prices of other goods 
in the taxing country. This, in turn, might lead to a slight tem- 
porary increase of exports until the prices of these goods were in 
the same relation to the foreign prices as before. But the con- 
sumers in the taxing country would still, after this inappreciable 
readjustment, be paying the entire tax, 


310 THE ECONOMICS OF TAXATION 


in the exporting country or countries. Consider our 
supposed duty on bananas. Suppose, also, demand to 
be elastic in the taxing country. Then the result of 
the tariff will be to reduce, somewhat, the net return 
received by the factors of production in producing 
countries. So long as consumers pay any part of the 
tax, their demand will be less than before. This 
means that the marginal men and the marginal land 
devoted to banana raising will be turned to other 
purposes or, in the case of some of the land, perhaps 
abandoned. But all those who would rather produce 
bananas or devote their land (or the land they hire) 
to the production of bananas even at a lower return 
than before, rather than turn to anything else, will 
continue to produce bananas even though such a 
lower return is received. Nevertheless the lower is 
the net return the smaller will be the output. If the 
price to consumers rises by the whole amount of the 
tariff, demand will be reduced and supply must ex- 
ceed demand. If the net price received by the pro- 
ducers falls by the whole amount of the tax, supply 
will be reduced and demand must exceed supply. 
Supply and demand will be equal only if consumers 
pay more and producers receive less than if the tariff 
were not levied. Just how the burden would be di- 
vided will depend on the conditions of demand and cost 
in the specific case. 


IMPORT AND EXPORT TARIFFS 311 


- Even, however, if the cost of production of bananas 
were not an increasing cost in the sense above as- 
sumed, some of the tax—conceivably, indeed, more 
than the tax—might be abstracted from the people 
of the producing country (or countries). The condi- 
tions under which this might happen are somewhat 
complex and require careful attention. 

Let us suppose that the persons and the land en- 
gaged in banana production could be diverted to an- 
other line (or lines) the product of which would be 
domestically consumed, and could be so diverted to 
an indefinite extent without loss (constant cost) if 
these other goods could be marketed in larger quanti- 
ties at the prevailing price (or prices). But let us 
also suppose that practically the only external market 
for the bananas (or any other goods of the banana- 
producing country or countries) is the United States. 
And let us further suppose that the demand for 
bananas in the United States is extremely elastic— 
i.e., sensitive to price changes. The tax, by raising 
the price, diminishes ‘the American demand for 
bananas. The addition to the price, constituting the 
tax, goes to the United States government. It does 
not, therefore, involve any additional obligation in 
money to the sellers in the banana-producing country 
(or countries). And since the tax causes a decrease 
of American demand for the bananas, it must mean 


312 THE ECONOMICS OF TAXATION 


an actual decrease of money obligation to the people 
of the banana-producing country (or countries). Less 
money is owed to them, but if their demand for Amer- 
ican goods is inelastic and these goods are unobtain- 
able elsewhere—save, perhaps, at much greater ex- 
pense—they may continue to buy from the United 
States even though their bananas sell in the United 
States in diminished quantities. This would mean, in 
time, relatively more gold and higher prices in the 
United States and relatively less gold and lower prices 
in the banana-producing territory. Since the amount 
of money securable for other goods and in other occu- 
pations in the banana-producing territory would now 
be less than before, banana producers would accept 
less than before and still remain in the business. 
Hence, Americans would be getting more for goods 
exported to the banana-producing territory and pay- 
ing less for their bananas. Part or all of the tax 
burden, or more,’ would rest on the people of the 
banana-producing areas.’ 

If any one objects to this mode of argument and 


1See Mill, Principles of Political Economy, Book V, Ch. IV, 
§ 6. 

2Tf, in the United States, or the other country or countries, 
or both, the gold standard is not in effect, nevertheless the same 
results would be reached as regards relative exchange value of 
goods. See the author’s Principles of Commerce, New York 
(Macmillan), 1916, Part I, Ch. VI, §§ 6, 7, 8, and 9, and Part II, 
Ch. III, $3 (especially p. 47). 


IMPORT AND EXPORT TARIFFS S13 


wishes to trace price changes directly to the change 
in American demand, we shall still reach the same 
final conclusion. The decreased demand for the taxed 
bananas will force either a lowering of their price 
or a reduced sale or both. The latter must drive 
some of the banana producers into other lines of pro- 
duction. The former will cause some of them to prefer 
other lines. But this will force down the prices re- 
ceived in these other lines—unless the money which 
would have been sent to America for American goods 
is now spent in the banana-producing region, so off- 
setting the decreased American demand for bananas. 
Unless this money is so spent, prices will fall in the 
banana-producing country or countries. But it is 
clear that this result (viz., a fall of prices in the 
banana-producing country, or countries) depends upon 
the people of the banana-producing areas continuing 
to buy American goods i.e., upon a flow of gold to 
America. American prices, on the contrary, would 
rise. Americans producing the goods wanted in the 
banana-producing areas would find money earnings 
in general in America and prices in general becoming 
higher than before and would be unwilling to remain 
producers of these specific goods except at higher 
prices than before. With prices in the banana-pro- 
ducing country or countries falling and prices in the 
United States rising, the amount of bananas that 


314 THE ECONOMICS OF TAXATION 


Americans could get for a given quantity of the ex- 
ported goods exchanged for them might become 
greater by enough to partly pay the import duty or 
to entirely pay it or to more than pay it. In other 
words, the tax is partly paid, wholly paid, or more 
than paid by the people of the banana-producing 
region. 

The conclusion above arrived at can be established 
the more certainly, perhaps, if we assume the trade 
to be carried on by means of barter and if we assume 
the payment of the duty to be made in kind.* Let us 
suppose the trade to be of American cloth for Central 
American bananas and let us suppose it to be, before 
the tariff is levied, at the rate of 1 yard of cloth (of 
a given quality) for one dozen bananas, or 10 yards 
for 10 dozen. But the American demand for bananas 
is assumed to be elastic and the demand of the Central — 
Americas for cloth made in the United States is as- 
sumed to be inelastic. Suppose, now, a duty of 20 
per cent. to be levied on the imported bananas and | 
payment to be demanded in kind. If American de- 
mand for the bananas is very elastic, sales of bananas 


1 Under these circumstances, Professor F. Y. Edgeworth has 
concluded, mistakenly so in the view of the present writer, that ~ 
more loss than the amount of the tax could not be imposed by 
the tariff-levying country on the other or others. See Economic — 
Journal, Vol. VII, p. 307. See, also, criticism by the present — 
writer in Principles of Commerce, New York (Macmillan), 1916, © 
pp. 48 and 49, note. . 





IMPORT AND EXPORT TARIFFS 315 


for cloth would greatly decrease provided any attempt 
were made to shift the burden of the duty upon the 
American banana consumers. But this means that the 
people of Central America would not secure the cloth 
for which their demand is assumed to be inelastic. 
To secure their cloth they might offer for it, not only 
the old price of 10 dozen bananas for 1o yards of 
cloth but also 2 dozen more of the bananas in pay- 
ment of the 20 per cent. tax. They would then be 
offering to Americans as individual buyers as many 
dozen bananas for a given quantity of cloth as before 
so that Americans should not, it may appear, hesitate 
to buy these bananas. But what is to become of the 
extra 2 dozen on each 10 dozen, the 2 dozen collected 
as a tax by the United States government? If the 
government needs other things rather than bananas, 
it must sell these bananas in order to get such other 
things. But if it sells them, its doing so will increase 
the available amount of bananas in the country be- 
yond what it would be without the duty. There are 
now available, therefore, not only the bananas sent 
in by Central America in exchange for cloth but also 
the additional bananas paid by the Central Americans 
to the United States government as a tax in kind in 
order that they may have the privilege of exchanging 
their bananas for cloth. But the availability of these 
additional bananas means that the marginal utility of 


316 THE ECONOMICS OF TAXATION 


bananas to American consumers is less than if bananas 
were relatively scarce. Even though American demand 
is elastic in the sense that a higher price would greatly 
decrease sales, it may not be greatly responsive, by 
way of increased sales, to a reduced price. In any 
case, the larger number of bananas cannot be marketed 
on quite as good terms as could a smaller number. 
The bananas offered in payment of the tax enter into 
competition in the American market with the other 
imported bananas. Bananas will, therefore, have to 
sell at a lower price than if the tax-collected bananas 
were not also on the market. The offer of 10 dozen 
bananas, plus 2 dozen to pay the tax, will fail to 
secure for the Central Americans the desired 10 yards 
of cloth. The 2 dozen paid to meet the tax, by enter- 
ing into competition with the 10 dozen sent over to 
pay for the ro yards of cloth, will probably bring it 
about that the 10 dozen bananas will buy less than 
ro yards, e.g., 9% yards of cloth. If, then, demand. 
for the cloth is inelastic, even more bananas may have 
to be offered in order to purchase the desired amount 
of cloth. Whether, therefore, the tax is paid in money 
or in kind, the people of the banana-producing areas 
may, conceivably, have to pay the entire tax and, in 
addition, may have to pay more than before for their 
cloth. 

Our conclusions would be the same if the taxing 


IMPORT AND EXPORT TARIFFS 317 


government wanted bananas for its own use. Getting 
these bananas by means of the tax it would not have 
to buy them with the proceeds of income taxes or 
other internal taxes. It would not have to bid against 
other consumers to get the bananas. Both individual 
American consumers and the American government 
had been, before, offering something for bananas. But 
after the tax is laid, only individual consumers would 
be offering anything for bananas and they would not 
buy as much as they and the government together 
had been buying. Indeed, with their demand elastic, 
they would buy even less than before if the cost of 
the bananas should be at all added to by the tax. 
The bananas paid to the American government in tax 
have to be paid by the people of the banana-producing 
regions else the elastic American demand for bananas 
would be cut down and the inelastic demand of the 
banana-producing population for Ameriean cloth would 
not be satisfied. But the bananas wanted by the gov- 
ernment had previously to be paid for, by taxes on 
the American people,’ presumably through the export 
of cloth. For this part of their banana export, the 
banana-producing population would no longer get 
cloth. But since their demand for cloth is assumed to 


1 Since these taxes need no longer be collected it may be argued 
that individual consumers could afford to buy more bananas than 
before. But it is doubtful if most of their saving on taxes would 
go to satisfy this one desire among many. 


318 THE ECONOMICS OF TAXATION 


be inelastic, they would try to get as much cloth as 
before and to do this they would have to offer more 
bananas. They might, therefore, have to offer these 
bananas at a slightly lower price in terms of cloth, 
besides paying the tax, thus really paying to the United 
States and its people more than the tax.* 

It should be emphasized that the assumed conditions 
under which the burden of an import duty would be 
paid mostly—or more than paid—by the people of 
the exporting country are conditions highly unlikely 
to be realized in practice. That the banana-importing 
country should have an extremely elastic demand 
which would contract greatly at slightly increased 
prices, while the other country (or countries) should 
have an inelastic demand for the products of the tax- 


ing country, is improbable. If this means that the — 


banana-producing country (or countries) is practi- 
cally limited to the duty-levying country for the sale 


of its bananas and the purchase of cloth—and it means — 


very nearly such a state of affairs—the improbability 
becomes almost an impossibility. For the people of 
any country to expect, then, that an import duty levied 
to produce revenue will be a burden chiefly on some 


1 Should the government, having collected the tax in kind, de- 
stroy the bananas or use them for some new purpose, so that they 


did not come into competition either directly or indirectly with — 
the other imported bananas, then not more than the amount of the — 


tax could be lost by the people of the banana-producing areas. 





IMPORT AND EXPORT TARIFFS 319 


other country or countries trading with it, would be 
foolish. And yet, under the assumed conditions of 
demand, such a consequence might conceivably be 
realized. 

In passing, attention may be directed to a like con- 
ceivable result in the case of the protective tariff. 
Restriction of imports by (say) the United States, 
by means of a protective tariff, might tend towards 
a temporary excess of exports and an inflow of gold. 
The consequent rise of American prices and slight fall 
of foreign prices might mean that Americans would 
get somewhat higher prices for goods still exported 
and would be able to buy such foreign goods as were 
not taxed by the protective system, at somewhat lower 
prices. But the main result would probably be that 
foreigners would purchase much more largely of each 
other rather than of us and that, by such restriction, 
we would lose a valuable trade. And, indeed, as to 
goods which seemed producible in the United States, 
such gain from lower foreign prices would probably 
tend to a demand for an extension of the protective 
tariff to them also. 

1See Taussig, Principles of Economics, third edition, New York 


(Macmillan), 1921, Vol. I, pp. 523-526; cf. Brown, Principles of 
Commerce, Part II. 


320 THE ECONOMICS OF TAXATION 


§7 


The Incidence of Revenue Duties on Exports 


Let us now consider the possible incidence of duties 
on the exports of any country. Export duties have 
not, as a rule, been popular, perhaps because of the 
common notion that prosperity is gained by discour- 
aging imports but is lost by discouraging exports. 

What would be the incidence of a duty on exports, 
levied solely for revenue? Clearly, if the demand in 
foreign countries for the goods the export of which 
is taxed, is very elastic, most of the burden of the 
tax must fall upon the people of the taxing country. 
If the taxed goods exported are produced under con- 
ditions of increasing cost, a lower net price will drive 
out some of the marginal production factors. The 
production factors sufficiently above the margin will 
remain in even at such lower net returns.* 

But even if each unit of every factor of production 
is as ready to leave the industry as each other, the 
burden of the tax will rest on the people of the tax 
levying country provided foreign demand for the taxed 
goods is sufficiently elastic. Suppose the tax to be 
levied by the United States (after an amendment to 


1Cf. Bastable, The Theory of International Trade, fourth edi- 
tion, London (Macmillan), 1903, p. 114. 


IMPORT AND EXPORT TARIFFS 321 


the constitution permitting it) on exports of cloth. 
Such a tax would cause fewer sales abroad. The pur- 
chase, by Americans, of goods from the cloth-buying 
areas, e.g., of bananas, might for a time continue, es- 
pecially if American demand for these goods were 
inelastic. The outflow of money would mean that the 
- American cloth would sell at a lower price while the 
bananas might sell at a higher price because of the 
somewhat larger amount of money in the banana- 
producing territory. Then the people of the United 
States would be, indirectly, paying their own tax in 
part or in whole. But the burden would not be ex- 
clusively on the producers of the cloth. Indeed, this 
industry might conceivably be carried on under con- 
ditions such that, at any lower return than before 
relatively to returns in other lines, the factors en- 
gaged in it would all withdraw. But the smaller 
amount of money in the United States would mean 
lower money returns in all lines carried on there, while 
higher prices than before would have to be paid for 
the imported bananas. The lower money income of 
Americans would be compensated, so far as they con- 
sumed American goods, by lower prices of these goods. 
The burden of the tax would fall upon them in pro- 
portion as they were consumers of bananas. 

Leaving out the flow of gold and assuming the trade 
to be barter we would reach a like conclusion. A 


322 THE ECONOMICS OF TAXATION 


tax on the exported cloth would have to be paid, in 
large part, by the exporting country, else the inelastic 
demand of its people for bananas would not balance 
against the elastic demand of the people of the banana- 
producing areas for cloth. But more than this tax 
would not have to be paid by the people of the United 
States. For if the tax were all paid by the people 
of the cloth-producing country, i.e., the United States, 
the people of Central America would be getting their 
cloth at the same price as formerly in relation to their 
bananas and might reasonably be expected to buy as 
much of the cloth as if there were no tax. Except 
that the general level of prices would be, in Central 
America, slightly higher than before, conditions would 
be for them the same as if there were no tax. Part 
or the whole of the burden would, in these circum- 
stances, fall on the people of the levying country. 
More than the cost of the tax could not so fall. 
Consider, now, the case of an export duty when 
there is an inelastic demand abroad for the goods 
so taxed. Such an inelastic demand for American 
cloth might be due, partly, to an American monopoly 
of cloth production and partly to the existence of a 
total demand which would be almost the same through 
a considerable range of prices. Then a tax on the ex- 
ported cloth might impose a burden on the people 
of the buying country or countries more than the 


IMPORT AND EXPORT TARIFFS 323 


amount of the tax. If this taxed cloth is produced, 
in the United States, by labor, capital and land, most 
of which would be withdrawn to other industries 
should the net yield diminish, then in order that the 
cloth should still be produced, the price must rise 
so that these factors would get about as much net 
as before, despite the tax. Otherwise, the inelastic 
foreign demand would not be satisfied. But such a 
rise in the price of the cloth would mean an increased 
flow of gold to the United States and higher money 
prices and incomes. Hence, a price for cloth higher 
than before by more than the tax would be necessary 
in order to keep cloth producers in the business. The 
people of the United States would then be getting 
the export tax paid by foreigners and would be get- 
ting, in addition, perhaps, more of other goods, e.g., 
bananas, for their cloth than before. Money prices 
in the banana-producing areas would tend to be some- 
what lower because of the flow of gold consequent 
on the tax,’ and this would mean that Americans might 
get their bananas slightly cheaper than before. But 
if American demand for bananas proved to be very 
sensitive to price reduction or to the increased money 
incomes of Americans, so that more bananas were 


1 This effect would in practice be minimized for Central America 
by being spread over all the rest of the world outside of the taxing 
country. 


324 THE ECONOMICS OF TAXATION 


purchased than prior to the tax, then any considerable 
flow of money into the United States would not take 
place. If, on the other hand, although higher banana 
prices might discourage American buying, lower prices 
would not increase it, then such a tax on the ex- 
portation of cloth might make the price of bananas 
in terms of cloth very favorable indeed to American 
purchasers of the bananas.* 

Putting our problem in terms of barter economy, 
let us suppose that the people of the banana-pro- 
ducing areas, having an inelastic demand for American 
cloth, pay the entire tax. To do so they will have 
to sell more bananas. But this will lower the mar- 
ginal utility of bananas to the American consumers. 
Hence, that the desired cloth may be secured, more 
bananas may have to be sent than the number pre- 
viously sent plus the number sent to pay the tax. 

A government levying an export duty on a product 
not securable in any appreciable amounts in other 
countries is in a position somewhat analogous to a 
monopolist fixing a price on his product. It is true 
that the fact of some commodity being produced only 
in one country does not in itself mean monopoly or 
a high price for the commodity. The different pro- 
ducers and producing factors within such a country 


1 Note discussion in Mill, Principles of Political Economy, Book 
Vell VO; 


IMPORT AND EXPORT TARIFFS 325 


may compete actively for export sales. A price to 
yield higher returns than are yielded in other lines 
in that country would tend to divert industry into 
such a relatively remunerative line; and such diver- 
sion would tend to keep down the price of the output 
of such a line. But a high export tax levied by a 
government tends to raise the price of the goods to 
foreign buyers—particularly if they have an inelastic 
demand for such goods and cannot secure them else- 
where—without increasing, or even while decreasing, 
the output. It is not the producers of the exported 
goods who get the money from the tax, but their 
government. If the tax is, in the last analysis, paid 
by foreign purchasers of the taxed goods, there is a 
clear gain to the people of the exporting country. For 
they receive the benefit of government services the 
cost of which they do not bear. But this gain is 
general to the people of such a country. It gives 
the producers of the goods on which an export duty 
is laid no relative advantage. We need not suppose, 
therefore, that it increases the output of these goods 
in relation to the country’s other products. Indi- 
vidual producers of such exported goods have no 
monopoly. But the government, by virtue of an ex- 
port tax, may, under the assumed conditions, reap a 
gain analogous to monopoly profit. And the same 
problem may conceivably face such a government that 


326 THE ECONOMICS OF TAXATION 


faces a monopolist, the problem of deciding what 
rate will yield the largest net gain. 

There may be many cases where a government could 
get something from foreigners through the levy of 
an export tax. Even if the taxed goods are securable 
elsewhere, they may not be securable elsewhere in 
considerable quantities except at an appreciably higher 
cost. But it is unlikely that there are any consider- 
able number of cases where a government can thus 
realize large amounts at the expense of foreign con- 
sumers. For there are, usually, alternative sources 
of supply significant enough so that any considerable 
export tax—if the burden could not be borne by the 
home producers—would cost the taxing country most 
of its export trade. If it were easy and practicable 
for governments to raise money by imposing taxes the 
burden of which would rest on foreigners and if this 
were generally understood, the game would be one at 
which all might play with, perhaps, net advantages 
to none. The actual possibilities, however, are not 
very promising. 


§ 8 


Summary 


In this final chapter we have considered taxes on 
imports and taxes on exports. Taxes on imports are 





IMPORT AND EXPORT TARIFFS 327 


frequently levied for protection rather than for rev- 
enue. They are then intended to prevent or greatly 
to curtail the importation of the foreign goods subject 
to the tax and to give the home market to home pro- 
ducers. Industry is thus diverted out of the lines. 
it would otherwise follow, into less profitable lines. 
There is a net loss of productive power and of total 
consumption. 

An import duty levied only to secure revenue for 
government may be on goods not produced in the 
levying country or may be levied at an equal rate 
on imported and on the competing domestically-pro- 
duced goods. Such a duty on imports will, if demand 
for the imported goods is relatively inelastic or if 
there are other available markets of importance for 
them, rest almost wholly on the consumers of these 
goods in the tax-levying country. If demand for the 
taxed goods is very elastic, if they cannot easily be 
marketed elsewhere, if the goods exported by the levy- 
ing country are not easily obtainable from other places 
and if the foreign demand for these goods is com- 
paratively inelastic, then a considerable part or all 
of such a tax may conceivably rest on foreigners. 
Indeed, it is conceivable—though highly improbable— 
that the people in the foreign country or countries 
concerned may suffer a loss greater than the tax. 

A duty on exports may also, under various assumed 


328 THE ECONOMICS OF TAXATION 


conditions, rest chiefly on the people of the levying 
country or on foreigners. Here, too, it is conceivable 
that foreigners may bear a loss in excess of the tax. 
But, in practice, the people of each country are likely 
to have to bear, in the main, the expense of their 
Own government and are not likely, either by import 
or by export duties, to be able to impose these expenses 
In any great degree upon foreign consumers of their 
products. Instead, either import or export duties | 
would be likely in nearly all cases, to rest on con-— 
sumers, in the tax-levying country, of imported goods. _ 
Such duties therefore are, in effect, like commodity 
taxation in general. Consumers are almost certain 
to bear them in large part and may bear them almost 
wholly. : 


CHAPTER XI 


CONCLUSION 


We began our inquiry into the probable effects of 
the adoption of various revenue-raising policies, by 
considering the incidence and effects of government 
finance through monetary inflation. Such inflation we 
saw to be, really, a sort of concealed taxation. Next 
we examined into the nature and endeavored to com- 
prehend the principal consequences of government 
borrowing. The remainder of the book was devoted 
to a consideration of the incidence and effects of taxes 
generally recognized as such. We considered taxes 
on commodities or sales under conditions of competi- 
tive and monopolistic production and under conditions 
of constant, increasing and decreasing cost. We then 
discussed the ultimate incidence of taxes levied di- 
rectly upon or shifted to labor incomes or wages, and, 
immediately after this, the incidence of compulsory 
workmen’s insurance. Taxes on capital and on the 
income of capital were next considered; then taxes 
on land and taxes on sales of land and capital and 

329 


330 THE ECONOMICS OF TAXATION 


on loans. Finally, the possible incidence of import 
and export duties was studied and, in that connec- 
tion, brief consideration was given to the purposes and 
effects of a so-called “protective’’ tariff. 

Are we prepared to make any positive application 
of our investigations? The intention of the author is 
to make no such application, but to leave for the 
reader the making of whatever application may seem 
to him proper. One comment of a negative nature 
in regard to this matter may, however, be hazarded, 
for the purpose of bringing out with greater distinct- 
ness the point of view from which this book has been 
written. | 

The comment in question is that there is no obvious 
support in the argument of the book for the so-called 
“ability” or “equal sacrifice” theory of taxation. 
Whether there is, in the book, any not obvious but 
nevertheless discoverable support for this theory, we 
need not here attempt to say. Our purpose has been 
to arrive at cause and effect relations, to find out, 
so far as we could, what effects various kinds of taxes 
would be likely to produce. We have considered pos- 
sible effects on production and prices, on capital ac- 
cumulation, on population, on land values, on trade. 
No study of this sort can possibly, in and of itself, 
determine for us what sort of tax system we want. 
We may desire that commodity prices shall be raised, © 


CONCLUSION aor 


that capital accumulation shall be furthered or re- 
tarded, that trade shall be discouraged, that land 
values shall be high—or low. We may desire a society 
in which there is a comparatively equal or a compara- 
tively unequal distribution of wealth. We may desire 
a society in which the obstacles in the way of the 
ambitious poor who are anxious to get a start in life 
and to acquire some property are very great or a 
society in which these obstacles are reduced to a min- 
imum. We may desire a society in which incomes 
received are in some proportion to services rendered, 
or a society in which they are inversely proportional 
to services rendered, or a society in which they de- 
pend upon position or prescription, or a society in 
which they are in proportion to needs. To say that 
taxation ought to impose “equal sacrifice” on all citi- 
zens—ought to be in proportion to “ability” —may be 
to assume, not only that possible effects on the rate 
of accumulation are of relative unimportance, but also 
that nothing should be changed of the general con- 
ditions determining the distribution of wealth and in- 
comes, or, at least, that taxation should never be levied 
with any regard to effecting or contributing to any 
such change. 

In short, the kind of taxation a given person will 
favor depends both upon what sort of results he wants 
accomplished—what kind of economic society seems to 


332 THE ECONOMICS OF TAXATION 


him ideal—and upon his understanding of cause and 
effect relationships in the field of taxation. Some- 
times persons disagree regarding the kind of taxation 
they favor because they disagree regarding the re- 
sults which they wish to secure. But, in other cases, 
there is disagreement regarding the desirability of vari- 
ous taxes because some or all of the parties to the 
controversy do not understand what effects these taxes 
would tend to produce. They support or oppose taxes 
of various kinds, ignorantly, favoring what would 
produce effects the reverse of those they desire, and 
opposing what would produce the very consequences 
they profess to want. 

The present volume is not intended to lay down 
ideals of the organization of economic society. Else- 
where the author has indicated, somewhat, his own 
point of view.t Here he has endeavored to keep his 
point of view in the background, avoiding not only 
any pronouncement as to how welfare is to be secured, 
but, even, any pronouncement as to whether the com- 
mon welfare, or the welfare of some limited group 
(vested rights?) or no welfare at all, should be a goal 
of effort. The purpose, here, has been to combat only 


1See relevant passages and chapters in Economic Science and 
the Common Welfare, Columbia, Mo. (The Missouri Book Com- 
pany), 1923. See, also, The Taxation of Unearned Incomes (The 
Missouri Book Company), 1921. 


erg 


CONCLUSION B39 


ignorance and fallacious logic in the realm of cause 
and effect. Indeed, science, as such, can, in this field,* 
do no more. If this purpose has been accomplished, 
though imperfectly and in but a limited degree, the 
study made will not, perhaps, have been wholly use- 
less. 


1 In some inquiries, laws of coexistence are sought after as well 
as laws of sequence. 


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INDEX 


A 


Ability, theory of taxation ac- 
cording to, 198-201, 330-333 
Accumulation, do all taxes dis- 
courage, 262-265 

Adams, H. C., Finance, criti- 
cized, 107-8n. 

Adams, T. S., article by, cited, 


183 
Anderson, F. F., article by, 
cited, 31 n. 


Austria, monetary inflation in, 
17 n. 


B 


Bastable, The Theory of Inier- 
national Trade, cited, 320 

Bias, influence of, even on 
trained economists, 8-9 

Bonds, of government, are they 
a mortgage of the masses to 
the classes, 42-46 

Borrowing, by government, and 
inflation, 46-50; by govern- 
ment, the nature of, 28-30; 
by government, the ultimate 
incidence of, 28-52 

Brown, article by, cited, 268- 
9n.; Economic Science and 
the Common Welfare, cited, 
68, 253, 202, 332; Principles 
of Commerce, cited, 304, 312, 
314, 319; The Taxation of 
Unearned Incomes, cited, 332 


_ Budget, 


nature of problems 
concerning, 7-8 

Business, “as usual,’ in war 
time, 30-37 


c 


Capital, the incidence of taxes 
on, in general, as distin- 
guished from taxes on when 
used in some but not all in- 
dustries, 184-198; incidence 
of taxes on, when used in 
some as distinguished from 
all industries, 178-184; inci- 
dence of taxes on, and on the 
income from, 178-212; levy 
on, to pay off war debts, dis- 
cussed, 45; possible net loss 
to community from tax on, 
201 

Capital goods, shifting of taxes 
on sales of land and, and on 
loans, 267-288 

Capitalization, taxation and, 
236-246; of taxes on future 
increases in value of land, 
244-246; of a tax, when does 
it take place, 248-254 

Carver, War Thrift, cited, 30 n. 

Cassell, The Nature and Neces- 
sity of Interest, cited, 186 

Clark, The Distribution of 
Wealth, cited, 180; criticized, 
PRE ORR Te 


337 


338 


Commodity, long-run incidence 
of a tax on, when produced 
by a monopoly under condi- 
tions of diminishing cost, 
123-132. See Commodities 

Commodities, competitively pro- 
duced, taxes on, 53-96; in- 
cidence of a tax on, when 
produced by monopoly, in the 
short run, 118-123. See Com- 
modity 

Competition, taxes on com- 
modities produced under con- 
ditions of, 53-96 

Compound taxes, incidence of, 
258-262 

Constant cost, incidence of a 
tax on commodities competi- 
tively produced under condi- 
tions of, 59-63, 67; incidence 
of a tax on commodities 
monopolistically produced un- 
der conditions of, 102-108 

Consumers, how paper-money 
inflation taxes, 14-20 

Corporations, discriminated 
against, by the Federal “ex- 
cess-profits” tax of 1919, 206- 
207 ; taxes on sales of securi- 
ties of, 284-287 

Cost, constant, or elastic sup- 
ply, nature of, 56-59; inci- 
dence of a tax on commodi- 
ties competitively produced 
under conditions of constant, 
59-63, 67; incidence of a tax 
on commodities monopolisti- 
cally produced under condi- 
tions of constant, 102-108; in- 
cidence of a tax on commod- 
ities competitively produced 
under conditions of decreas- 
ing, 86-94; incidence of a tax 
on commodities competitively 
produced under conditions of 


INDEX 


increasing, 73-86; incidence 
of a tax on the output of a 
monopoly under conditions of 
increasing, 110-118; long-run 
incidence of a tax on a 
commodity produced by a 
monopoly under conditions of 
diminishing, 123-132; increas- 
ing, the nature of, 68-73; 
monopoly and increasing, 108- 
109, 109-I2n.; production by 
a monopoly under conditions 
of diminishing, 118-123; 
short-run incidence of a tax 
on the output of a monopoly 
under conditions of diminish- 
ing, I2I-123 


D 


Davenport, cited, 30n.; article 
by, cited, 39, 44; article by, 
cited, 226; article by, criti- 
cized, 217n.; suggestion by 
and article by, cited, 183; 
The Economics of Enterprise 
cited, 68 

Decreasing cost, incidence of a 
tax on commodities competi- 
tively produced under condi- 
tions of, 86-94. See Dimin- 
ishing cost 

Demand, elastic, for the prod- 
ucts of lines of industry in 
which there is compulsory in- 
surance of labor, in connec- 
tion with the incidence of 
such insurance, 170-176; in- 
elastic, for the products of 
lines of industry in which 
there is compulsory insurance 
of labor, in connection with 
the incidence of such insur- 
ance, 165-169 


INDEX 


Diminishing cost, long-run in- 
cidence of a tax on a com- 
modity produced by a mo- 
nopoly under conditions of, 
123-132; production by a 
monopoly under conditions 
of, 118-123; short-run inci- 
dence of a tax on the output 
of a monopoly under condi- 
tions of, 121-123. See De- 
creasing cost 

Duty, on imports, for revenue, 
when its incidence is purely 
upon the people of the levy- 
ing country, 308-309; on im- 
ports, for revenue, conditions 
under which it may rest upon 
another than the levying 
country, 309-319. 
ties, Tariff 

Duties, import, levied purely 
for revenue, 305-307; for 
revenue, on exports, inci- 
dence of, 320-326. See Duty, 
Tariff 


E 


Edgewerth, 
III; article by, 
criticized, 314 n. 

Effect, possible, in decreasing 
utilities, of a tax on com- 
modities competitively pro- 
duced, 95; in loss of utility, 
from permitting high prices 
in order to tax monopoly, 
133. See Effects 

Effects, of taxes, will they dis- 
courage accumulation regard- 
less of what the taxes are, 
262-265; of taxation, aside 
from shifting and incidence, 
importance of considering, 


article by, cited, 
cited and 


See Du- 


339 
11-13; in the way of possible 
net loss to community, from 
tax on capital, 201; of taxes 
on sales of corporation se- 
curities, 285-287; of taxes on 
sales of land, 276. See Ef- 
fect 

Excess profits, evasion of taxes 
on, 207-208; incidence of 
taxes on, 202-208; taxes on, 
as discriminating against cor- 
porations, 206-207 

Evasion, of “excess 
tax, 207-208; of taxes on 
mortgages and other per- 
sonal property, 283-284 

Expenditures, of government, 
relation of revenues to, 5-8 

Export, and import tariffs, in- 
cidence of, 289-328. See Ex- 
ports 

Exports, incidence of revenue 
duties on, 320-326 


profits” 


F 


Finance, significance of taxa- 
tion in public, 3-13 

Financing war, can burden of, 
be imposed on posterity, 37- 


42 
Fisher, The Purchasing Power 
of Money, cited, 21 
Functions, of the state, 3-5 


G 


Gephart, article by, cited, 283 

Germany, tonetary inflation in, 
16n., 17n., 20 

Government, borrowing of, 28- 
30; borrowing of, and its ulti- 
mate incidence, 28-52 


340 INDEX 


Government bonds, are they 
a mortgage of masses to 
classes, 42-46 


H 


Haig, R. M., article by, cited, 
224 

Hayes, H. G., article by, cited, 
254 


I 


Import, duty for revenue, when 
its incidence is on the people 
of the levying country, 308- 
309; duty for revenue, condi- 
tions under which it may rest 
upon another than the levy- 
ing country, 309-319; and 
export tariffs, incidence of, 
289-328 

Incidence, of compulsory insur- 
ance of workmen, 158-177; 
of compulsory insurance of 


workmen, statement of the 


problem of, 158-160; of com- 
pulsory insurance of work- 
men when insurance is re- 
quired in all trades or 
occupations, 160-163; of com- 
pulsory insurance of work- 
men when insurance is re- 
quired in some lines and 
advantages are realized by 
workmen, 164-165; of com- 
pulsory insurance of work- 
men when insurance is re- 
quired in some lines and 
advantages are not realized 
by workmen and when de- 
mand for the products of 
these lines is inelastic, 165- 


169; of compulsory insurance 
of workmen when insurance 
is required in some lines and 
advantages are not realized 
by workmen and when de- 
mand for the products of 
these lines is elastic, 170-176; 
shifting and, of taxation, 9- 
Il; of compound taxes, 258- 
262; of government borrow- 
ing, 28-52; of taxes on capital 
and the income from capital, 
178-212; of taxes on capital 
in general as distinguished 
from taxes on capital when 
used in some but not all in- 
dustries, 184-198; of taxes on 
capital used in some as dis- 
tinguished from all indus- 
tries, 178-184; of a tax on 
commodities competitively 
produced under conditions of 
constant cost, 50-63, 67; of a 
tax on commodities competi- 
tively produced under con- 
ditions of decreasing cost, 
92-94; of a tax on commodi- 
ties competitively produced 
under conditions of increas- 
ing cost, 73-86; extreme pos- 
sibilities of, in the case of a 
tax on commodities monopo- 
listically produced, 97-102; 
of a tax on goods produced 
by a monopoly under condi- 
tions of regular demand and 
constant cost, 102-108; in the 
long run, of a tax on a com- 
modity produced by a monop- 
oly under conditions of di- 
minishing cost, 123-132; in 
the short run, of a tax on 
the output of a monopoly 
under conditions of diminish- 
ing cost, I2I-123; of a tax on 


INDEX 341 


the output of a monopoly 
operating under conditions of 
increasing cost, 110-118; of 
taxes on “excess profits,” 
202-208 ; of taxes on inherited 
wealth, 208-210; of taxes on 
labor incomes, I41-157; of 
taxes on surplus or unusually 
high labor incomes, 153-155; 
of taxes on land, 213-266; 
of taxes on land used for 
specific defined purposes, 213- 
215; of taxes on land values 
or economic rent, 215-236; of 
taxes on land according to 
quantity, 255-258; of a tax 
on monopoly in proportion to 
gross returns, 135-140; of a 
tax on monopoly net profits, 
132-133; of taxes on mort- 
gages and on loans in gen- 
eral, 276-283; of monetary in- 
flation considered as a kind 
of taxation, 14-20; of a rev- 
enue import duty, when 
purely on the people of the 
levying country, 308-309; of 
a revenue import duty, when 
it rests upon another than the 
levying country, 309-311; of 
import and export tariffs, 
289-328; of revenue duties on 
exports, 320-326; of taxes on 
sales of land, 267-276; of 
taxes on sales of corporation 
securities, 284-285; of taxes 
on wages in general, 141-147; 
of taxes on all wages in any 
~one line, 47-153. See Shift- 
ing 

Income, incidence of taxes on 
the, from capital, 178-212. 
See Incomes 

Incomes, of labor, incidence of 
taxes on surplus or unusually 


high, 153-155; incidence of 
taxes on labor, 141-157. See 
Income, Capital, Labor, Land, 
Wages 

Increasing cost, incidence of a 
tax on commodities competi- 
tively produced under con- 
ditions of, 73-86; incidence of 
a tax on the output of a 
monopoly operating under 
conditions of, 110-118; mo- 
nopoly and, 108-100, 109- 
I2n.; the nature of, 68-73 

Increments, of land _ values, 
capitalization of tax on, 244- 
246 

Inflation, borrowing of govern- 
ment and, 46-50; monetary, a 
species of taxation, 14-27; of 
paper money, how it taxes 
consumers, 14-20; unequal ef- 
fects of, on the welfare of 
different economic classes, 2I- 
26 

Inheritance, incidence of taxes 
on, 208-210 

Insurance, advantages of com- 
pulsory, of workmen, against 
accident, 174-175; incidence 
of compulsory, of workmen, 
158-177; incidence of com- 
pulsory, of workmen, when 
insurance is required in all 
trades or occupations, 160- 
163; incidence of compulsory, 
of workmen, when insurance 
is required in some lines and 
advantages are realized by 
workmen, 164-165; incidence 
of compulsory, of workmen, 
when insurance is required 
in some lines and advantages 
are not realized by workmen 
and when demand for the 
products of these lines is in-~ 


342 


elastic, 165-169; incidence of 
compulsory, of workmen, 
when insurance is required in 
some lines and advantages are 
not realized by workmen and 
when demand for the prod- 
ucts of these lines is elastic, 
170-176; statement of the 
problem of incidence of com- 
pulsory, of workmen, 158- 
160 


L 


Labor, incidence of taxes on 
incomes from, I4I-I57; inci- 
dence of taxes on surplus or 
unusually high incomes of, 
153-155. See Wages 

Land, capitalization of taxes on 
future increases in value of, 
244-246; incidence of taxes 
on, 213-266; incidence of 
taxes on, when land used for 
specific defined purposes, 213- 
215; incidence of taxes on, 
according to quantity, 255- 
258; incidence of taxes on, 
according to value, 215-236; 
the shifting of taxes on sales 
of, on sales of capital goods 
and on loans, 267-288; taxes 
on sales of, 267-276, See 
Rent 

Loans, in general, taxes on 
mortgages and, 276-284; the 
shifting of taxes on sales of 
land and capital goods and 
on, 267-288 


M 


Marshall, Principles of Eco- 
nomics, cited, 88, 102, 228 


INDEX 


Mill, Principles of Political 
Economy, cited, 150, 312, 324 

Monetary inflation, a species of 
taxation, 14-27 

Money, paper, how inflation by, 
taxes consumers, 14-20 

Monopoly, and increasing cost, 
108-109, I09-I2n.; when a 
tax on goods produced by, 
causes a price rise of just 
half the tax, 102-108; inci- 
dence of a tax on output, un- 
der conditions of diminishing 
cost, in the short run, 12I- 
123; long-run incidence of a 
tax on a commodity produced 
by a, under conditions of di- 
minishing cost, 123-132; inci- 
dence of a tax on output of, 
under conditions of increasing 
cost, 110-118; incidence of a 
tax on, in proportion to gross 
returns, 135-140; possible ef- 
fect in loss of utility to 
would-be buyers, from per- 
mitting high prices in order 
to tax, 133; production by a, 
under conditions of diminish- 
ing cost, 118-123; taxes on 
commodities produced under 
conditions of, 97-140; a tax 
on the net profits of, 132-133 

Mortgage, are government 
bonds a, of the masses to the 


classes, 42-46. See Mort- 


gages 

Mortgages, evasion of taxes 
on, and on other personal 
property, 283-284; taxes on, 
and on loans in general, 276- 
284; taxes on, and on other 
evidences of ownership, a 
case of double taxation, 283- 
284. See Mortgage 


INDEX 


iS 


Paper-money inflation, how it 
taxes consumers, 14-20 

Posterity, can the burden of 
financing a war be imposed 
on, 37-42 

Prices, commodity taxation and 
the general level of, 63-67 

Production, by a monopoly un- 
der conditions of diminishing 
cost, 118-123 

Profits, discrimination against 
corporations from taxes on 
“excess,” 206-207; evasion of 
taxes on “excess,” 207-208; 
incidence of taxes on “ex- 
cess,” 202-208 

Protective tariffs, nature and 
purpose of, 290-301; revenue 
tariffs versus, 289-290; when 
“the foreigner pays the tax,” 
301-304 

Public finance, significance of 
taxation in, 3-13 


R 


Rent, arguments for and 
against the taxation of eco- 
nomic, 238-244; incidence of 
taxes on economic, 215-236; 
the taxation of economic, as 
the only way of preventing 
individual receipt of it under 
the competitive individualistic 
system of business, 233-236. 
See Land 

Revenue, incidence of duties on 
exports for, 320-326; import 
duties levied purely for, 305- 
307; import duty for, when 
its incidence is upon the peo- 
ple of the levying country, 
308-309; import duty for, 


343 


conditions under which it 
may rest upon another than 
the levying country, 309-319; 
versus protective, tariffs, 289- 
290. See Revenues 
Revenues, of government, rela- 
tion of, to expenditures, 5-8 


S 


Sales, of corporation securities, 
taxes on, 284-287; of cor- 
poration securities, effects of 
taxes on, 285-287; of land, 
taxes on, 267-276; of land 
and capital goods, shifting of 
taxes on, and on loans, 267- 
288 

Seager, article by, cited, 220 

Securities, taxes on sales of 
corporation, 284-287; of cor- 
porations, effects of taxes on 
sales of, 285-287 

Seligman, article by, cited, 250; 
The Shifting and Incidence 
of Taxation, cited, 67, 150, 
250; The Shifting and Inci- 
dence of Taxation, criticized, 
249-254, 7I-2n. 76n., 770, 
83 n., 86-7 n., 92 n. 

Shifting, of a tax on commodi- 
ties competitively produced, 
in the long and short run, 
81-86; of taxes on sales of 
land and capital goods and 
on loans, 267-288; and inci- 
dence of taxation, significance 
of study of, 9-11. See Inci- 
dence 

Sprague, O. M. W., cited, 30n.; 
article by, cited, 39 

State, functions of, 3-5 

Supply, elastic, nature of con- 
stant cost or, 56-59 


3.44 
fh 


Taussig, Principles of Eco- 
nomics, cited, 158, 161, 319 
Turgot, Reflections on the Ori- 
gin and Distribution of 
Riches, cited, 146 

Tariff, incidence of import and 
export, 289-328; nature and 
purpose of a protective, 290- 
301; revenue versus protec- 
tive, 289-290. See Duties, 
Duty 


U 


Utilities, possible effect of a 
tax on commodities competi- 
tively produced in decreas- 
ing, 95. See Utility 


INDEX 


Utility, possible effect in loss 
of, from permitting high 
prices in order to tax monop- 
oly, 133. See Utilities 


W 


Wages, in general, incidence of 
taxes on, I4I-147; in any one 
line, incidence of taxes on, 
147-153. See Income, In- 
comes, Labor 

War, “business as usual” in 
time of, 30-37; can burden of 
financing a, be imposed on 
posterity, 37-42 

Workmen, incidence of com- 


pulsory insurance of, 158- 
177. See Incidence, Insur- 
ance 









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